PORTLAND – The Maine Supreme Judicial Court on Friday set aside an alternative regulatory process that was used to raise local telephone rates for more than 500,000 Verizon customers in the state.

Although it found that the Public Utilities Commission acted within its discretion in imposing a $1.78 increase in the monthly rate over a five-year period, the court ordered the commission to reconsider whether it complied fully with the law establishing the new regulatory process.

Public Advocate Stephen Ward said the ruling should lead to a rollback of the $1.78 increase, but the commission chairman questioned Ward’s interpretation.

The long-awaited ruling came on an appeal brought by the public advocate’s office, which had argued that the rate increase approved in June 2001 amounts to an overcharge of roughly $75 million.

Under the alternative rate process created by the Legislature, rates are set according to a formula divorced from the phone company’s actual costs. The new, incentive-based system was intended to offer greater profits in return for a utility’s efficient operation.

Over the past decade, more than 35 states have introduced some form of “incentive regulation” for their largest telephone utilities, the court noted.

At the heart of the appeal was a provision in Maine’s law that said local phone rates set under the alternative process may be no higher than those under the traditional rate-of-return system.

While acknowledging that making such a determination with the certainty required by the law “is no easy task,” the justices concluded that the commission should attempt to come up with a comparison of rates under the two regulatory processes for the five-year period that ends in 2006.

Even if the commission cannot ensure that rates would be no greater than what they would have been under a return to the old process, it can go with the new system if it finds that full technical compliance with the law is not in the best interests of ratepayers, the court said.

In that event, the commission would report those findings to the Legislature, which would have the option of amending the statute.

Ward, the public advocate, said his office would file a motion with the PUC next week to have Verizon’s rates reduced by $1.78 a month.

“We’re very pleased,” he said. “It appears that unanimously, the law court is rolling back a $1.78 increase that Verizon’s customers have had on their monthly bills for more than a year.”

While there would be no recouping of increases paid in the past, Ward said, “We want to act quickly because we think customers are entitled to lower costs going forward.”

PUC Chairman Tom Welch and a spokesman for Verizon said they detected nothing in the court’s 15-page opinion suggesting that the increase be nullified.

The review ordered by the court will begin promptly, said Welch, who estimated that the proceedings would take three months at a minimum, and probably longer.

“As a practical matter, although the order has been vacated, I think we’re going to work hard to preserve the status quo,” he said, adding that he was encouraged by the court’s confirmation of the rate increase.

Welch praised the court’s understanding of the changes in rate regulation, its apparent sympathy for the commission’s attempt to apply the law and the constructive guidance offered in the opinion.

Ward said he was pleased that the opinion took note of the prospect that ratepayers would eventually be entitled to share in cost savings from Nynex’s merger with Verizon’s predecessor, Bell Atlantic.

Verizon spokesman Peter Reilly noted that the PUC has already found the alternative process to be in the best interests of ratepayers. He said Verizon expects that the commission will soon meet its obligation to demonstrate prospectively that they are better off than under the old method.