California Governor Signs BitLicense-Style Regulation To Take Effect in 2025

After most of a decade of legal efforts, a bill inspired by New York’s BitLicense system for exchange regulation has been signed in California.

After a somewhat contentious period of failed proposals and re-negotiations, California Governor Gavin Newsom has signed a pair of crypto-related bills into law as the Digital Financial Assets Law, a parallel to New York’s BitLicense regulations.

BitLicense, a law that shares many similarities with California’s new Bitcoin legislation, has a long history and has served as a model for regulation in the crypto industry. Signed in 2015, this law states a number of qualifications for various firms to be officially labeled as crypto exchanges, and subsequently mandates that such firms will be liable to criminal penalties if they do not secure a government license to offer such services. In other words, all exchanges in New York found themselves under the jurisdiction of this regulator. 

Within months of this bill going into effect in New York, an effort was made in California to pass a very similar version of the bill, which failed. Although this initial version of a California BitLicense law, AB-1326, was defeated in short order, it marked the beginning of a long attempt to create a regulatory framework for exchanges in the state. In September of 2022, for example, Newsom vetoed a newer version of the BitLicense concept. Newsom publicly praised the “intent” of this bill, but called it “premature to lock a licensing structure in statute” at that time. He drew attention to the work his administration made in outreach towards the impacted companies, and claimed that it must remain flexible “to ensure regulatory oversight can keep up with rapidly evolving technology and use cases, and is tailored with the proper tools to address trends and mitigate consumer harm”.

A little more than a year after this bill was defeated, however, a new one has come to take its place, and this one has finally gotten over the finish line. Newsom signed AB-39 into law on October 13, and also signed a much shorter piece of similar legislation regarding Bitcoin ATMs. Together, these two pieces formed the Digital Financial Assets Law, California’s answer to BitLicense. The law gives authority over exchange regulation to the Department of Financial Protection and Innovation (DFPI), an existing California agency. The DFPI will issue licenses to all exchanges, essentially holding them to a similar standard of existing money transfer laws. Exchanges must maintain thorough records and transparency to protect consumers, and will face specific penalties for failing to comply.

So, what has changed for Newsom? How have a year of negotiations changed the calculus for the state? For one thing, firms like BitAML have been heavily involved in the negotiation process for the bill, testifying and lobbying to ensure representation for the industry itself. Directly comparing the texts of the vetoed 2022 bill and the signed new law, several changes are apparent: first of all, the language is less harsh in several places, replacing “prohibited asset” with “stablecoin” and “licensee” with “covered person”, et cetera. More salient, however, are the changes to Section 3013 (b), which greatly increase the number of exceptions to this new regulation. Registered banks of several varieties, businesses chartered abroad and a few other holdouts are noted as exempt from these regulations. Changes like this are likely due to the impact of outreach programs.

Also relevant for Newsom are new activities from the Consumer Financial Protection Bureau (CFPB), which has been considering changes to existing regulations to include crypto exchanges. This would certainly qualify as some of the “forthcoming federal actions” Newsom mentioned in 2022. Most importantly however is the learning process of implementing this law. “Ambiguity of certain terms and the scope of this bill”, Newsom claimed, “will require further refinement in both the regulatory process and in statute to provide clarity” to all involved parties. “It is essential that we strike the appropriate balance between protecting consumers from harm and fostering responsible innovation”. It is for these reasons that the bill will not take effect until July 2025. 

When New York passed its BitLicense law in 2015, it led to a wave of exchanges leaving the state, often staying out for years. California’s new approach to their own BitLicense law, listening to the impacted parties and leaving a substantial adjustment period for further negotiation, represents a dramatic shift in regulatory friendliness and the overall mainstream acceptance of Bitcoin. No longer are legislators actively hostile to cryptocurrency, jumping at the chance to see a community they view as fraudsters punished; the Bitcoin world in 2023 is a massive industry that could represent a lot of economic growth for California. And this new friendliness, in return, bears out in the markets: price slumps in 2015 have turned into success in 2023 with bitcoin jumping in value by nearly $2k from Newsom’s signing to the date of this writing.

However, although the bill has undergone a great deal of changes over the years, the overwhelming majority of the bill that has been signed is identical to the one that failed last year, and it had no small number of critics. Even if the environment is friendlier overall, this bill is explicitly structured around a framework that left an immediate and major hole in the crypto ecosystem of New York that lingers to this day. Some businesses took years to return or never did, and in 2023 the state still prosecutes exchanges for violations, seizing $1.7M in assets from CoinEx in June.

A much more concerning possibility is one that fully accounts for the multibillion dollar industry of Bitcoin; namely the possibility of industry insiders. The Blockchain Association lambasted what it called “​​the same type of onerous licensing and reporting regime that has stunted the growth of the crypto industry and limited access to safe and reliable crypto products and services in New York,” and suggested that it “would impede crypto innovators' ability to operate.” In other words, there is no shortage of powerful exchanges with a revenue in the billions of dollars, able to sit in the room for negotiations of this bill and ensure favorable terms. But where does that leave the rest of the space? It is doubtless that the existing major players will be able to secure their license and pay any possible fees in short order, but for newcomers, this will be another significant hurdle to getting off the ground at all. Friendly regulation is very useful and important, but this approach also could become rife with favoritism.

Still, even with possible concerns, California’s Digital Financial Assets Law exists in its current form thanks to Bitcoin’s constantly-growing mainstream acceptance. Bitcoiners called the defeat of the first BitLicense “a victory we should celebrate”, and now the markets have celebrated a BitLicense-style regulation with a rally and new prosperity. Bitcoin is always seeking the maximum number of people to join its economic vision, and prosper for it, and the law seeks to protect these new customers. However, in the effort to keep scammers and disreputable actors away from Bitcoin users, we must be sure to not use this effort as an excuse to consolidate the exchange industry. Innovation has created this massive entity that now has a stake at California’s table, and its innovation must be protected.