New Rule Would Ban All U.S. Non-Competes
The United States Federal Trade Commission (FTC) has proposed a new national rule banning non-compete clauses between workers and their employers, including requiring all previously existing non-competes to be rescinded with written notice to the workers. The proposed rule is not final and the FTC has requested public comment on all aspects of their proposal. It would go into effect 180 days after publishing the final rule.
The proposed rule would provide that it is an unfair method of competition for an employer to enter into or attempt to enter into a non-compete clause with a worker; maintain with a worker a non-compete clause; or, under certain circumstances, to represent to a worker that the worker is subject to a non-compete clause. The proposed rule includes an exception for persons who are selling a business entity as long as such person is a substantial owner of the business (at least 25% owner).
Currently, enforceability of non-compete clauses in the U.S. varies between states, although all fifty states restrict non-competes to varying degrees with greater scrutiny by courts compared to other contracted employment terms due to public policy concerns about protecting a worker’s ability to earn a living. Non-competition agreements are a prominent feature of many employment relationships and of significant importance in M&A transactions.
This move by the federal administrative agency raises a number of questions and there is sure to be plenty of debate.
What authority does the FTC have to ban non-competes? The rule is proposed under Sections 5 and 6(g) of the Federal Trade Commission Act which allow the commission to regulate unfair methods of competition. The commission proposes that non-compete clauses are a restraint on trade, and that a uniform federal standard would promote certainty for both employers and workers. The FTC seeks comment on the extent to which employers use choice-of-law provisions to evade the state law where non-compete clauses are relatively less enforceable. Some opponents have claimed that this rule-making extends beyond oversight of competition and should instead be legislation that passes through Congress.
Will this ban depress wages? Increase consumer prices? Despite several studies that found that non-compete clause use is associated with greater earnings compared to individuals with no post-contractual earnings, the FTC argues that, these studies have methodological limitations that ignores other factors – namely that the non-compete clause use is accompanied by trade secret non-disclosure clauses, which it argues would likely have sufficient effect, and also that these studies compared high-wage state like California (where non-competes are void) and a lower-wage state like Illinois (where non-competes can be enforceable).
Who is covered as a “worker”? The proposed rule includes non-employees who perform work for employers and defined worker quite broadly to include unpaid, temp workers including sole proprietors who provide a service to a client or customer (intended to capture “gig economy” workers).
Is there an exception for senior executives who have the power to bargain for additional pay in exchange for non-competes? The proposed rule does not contain any senior executive exception, and no exception for “pay to refrain”. The commission acknowledges that senior executives may have the bargaining power to negotiate higher wages in exchange for post-employment restrictions and requested public comments on this point.
What about existing state laws? The proposed rule contains an express preemption provision providing that the rule will “supersede any state statute, regulation, order or interpretation “ to the extent that it is inconsistent with the rule.
What’s next? The FTC has requested comments on substantial portions of its proposal. There are likely to be numerous legal challenges to the proposed federal rule, which could take months or years to resolve. In the meantime, employers must comply with applicable state laws affecting non-competes. These state laws are also rapidly changing, and several states have general prohibitions (California, North Dakota and Oklahoma), while other states permit non-competes only for certain level of worker or only with sufficient compensation (Massachusetts, District of Columbia, Washington state, among others). Finally, in preparation for the possible nationwide ban, employers should review their current agreements to confirm they offer sufficiently robust protection of their confidential information, trade secrets and proprietary property.