Employment / 3 min read
The Federal Trade Commission published a proposed rule which would invalidate all noncompete agreements with workers or independent contractors. The FTC estimates that approximately 20% of American workers—or about 30 million people—are bound by a noncompete clause. As justification for its proposed rule, the FTC contends that noncompetes undermine competition and workforce mobility.
The rule would apply only to post-employment restraints—i.e., restrictions on a former employee’s conduct. If the rule becomes a regulation, employers may still restrict the conduct of current employees. Thus, employers will still be able to require current employees not to engage in competing activity.
Employers should keep in mind, however, that this regulation will apply to all post-employment noncompete agreements in effect 60 days after the final regulation is published. These non-competes will become immediately unenforceable. Under the proposed rule, the term “non-compete clause” means a contractual term between an employer and a worker that prevents the worker from seeking or accepting employment, after the worker’s employment with the employer. The proposed rule explains that determining whether a provision is a noncompete clause depends on how the provision functions, not what the provision is titled. The FTC definition of a noncompete clause would generally not include:
- Non-disclosure agreements because these covenants rarely prevent a worker from seeking or accepting employment with a person or operating a business after the worker’s employment;
- Client or customer non-solicitation agreements and no-business agreements, which prohibit the worker from soliciting or doing business with former clients or customers of the employer, whether or not solicited by the worker;
- No-recruit agreements, which prohibit the worker from recruiting or hiring the employer’s workers;
- Liquidated damages provisions, which require the worker to pay the employer a sum of money if the worker engages in certain conduct; and
- Training-repayment agreements, a type of liquidated damages provision in which the worker agrees to pay the employer for the employer’s training expenses if the worker leaves their job before a certain date.
The FTC’s guidance provides, however, that the clauses above could be considered non-competition clauses if they would have the same effect as a noncompete.
Rescission of Existing Noncompetes and Notice
The proposed rule would require employers to rescind existing post-employment noncompete clauses no later than the rule’s compliance date. The proposed rule would also require an employer who is rescinding a noncompete clause to provide notice to the worker that the worker’s noncompete clause is no longer in effect.
No Retroactive Effect
The proposed rule would not apply retroactively. An employer would not violate the proposed rule where—before the compliance date—it entered or attempted to enter a noncompete clause with a worker; maintained with a worker a noncompete clause; or represented to a worker that the worker is subject to a noncompete clause. Instead, the proposed rule would require employers to refrain from enforcing existing agreements, or entering new noncompetes, starting on the compliance date.
Superseding State Law
If implemented, the proposed rule will supersede any inconsistent state statute, regulation, order, or interpretation. Thus, Texas’s noncompete statute would be superseded by this rule.
No Private Right of Action
Under the proposed rule, only the FTC could act relating to rule violations, the proposed rule would not establish a private right of action for workers. Workers and independent contractors, however, could use the FTC rule to prevent the enforcement of non-competes.
Limited Impact on Business Acquisitions and Franchise Deals
While the proposed rule constitutes a sweeping ban on employment-related non-competes, it does show some restraint. The rule would not ban noncompetition clauses related to the sale of a business or disposing of a person’s ownership interest in the business entity. The exception only applies to someone with a "substantial" (i.e., at least 25%) ownership stake. Further, the proposed rule would not affect noncompete clauses between franchisors and franchisees.
Comment Period Ongoing
The FTC is soliciting comments on the proposed rule from now until May 10, 2023. Therefore, comments received by the FTC could persuade the agency to do some revamping of their proposal.
The rule would become effective 60 days after the final rule is published (and therefore becomes a regulation). Employers will have 180 days after the final rule is published to comply.
Judicial challenges to the new rule are expected as soon as a final rule is issued.