Background and Overview
On Jan. 5, 2023, the Federal Trade Commission (FTC) issued a Notice of Proposed Rulemaking (Proposed Rule) seeking to categorically ban nearly all employer non-competition agreements nationwide. If passed in its draft form, the Proposed Rule would: (1) prohibit employers from entering into virtually all non-compete agreements with all workers, (2) require employers to rescind existing non-compete agreements, and (3) require employers to notify past and current employees that their non-compete obligations are no longer in effect. The Proposed Rule would supersede all less-restrictive state non-compete laws, which in many jurisdictions are common and enforceable if the restriction reasonably protects the employer’s legitimate business interests. The Proposed Rule marks a major shift to the legality and enforceability of non-compete agreements. Employers who have historically included non-competition provisions in employee handbooks, employment agreements and equity grants will need to make significant changes before the Proposed Rule is implemented.
The Proposed Rule is in response to President Biden’s July 2021 Executive Order 14036, which directed the FTC to issue rules to limit the use of non-compete clauses “that may unfairly limit worker mobility.” In response, the FTC took a sweeping approach to banning non-competes, deeming such clauses as categorically unfair. The Proposed Rule broadly defines a non-compete agreement to include any “contractual term between an employer and a worker that prevents the worker from seeking or accepting employment with a person, or operating a business, after the conclusion of the worker’s employment with the employer.” The Proposed Rule also forbids any contractual provision that achieves a similar effect, such as an overly broad nondisclosure or non-solicitation agreement that would effectively preclude a worker from working in the same field. The rule applies to all employers nationwide and all “workers,” including an employee, independent contractor, extern, intern, volunteer, apprentice or sole proprietor who provides a service to a client or customer.
Further, the Proposed Rule would require employers to rescind existing non-compete clauses no later than the rule’s compliance date. The Proposed Rule places the onus on employers rescinding a non-compete clause to provide notice to current and former employees before the date the rule becomes effective. The Proposed Rule provides model language for such notice and would also establish a safe harbor provision whereby an employer would satisfy the rescission requirement when it provides satisfactory notice to the affected workers.
Finally, the Proposed Rule would also prohibit an employer from representing to a worker that the worker is covered by a non-compete clause where the employer has no good faith basis to believe the worker is subject to an enforceable non-compete clause. Under this provision, employers are prohibited from threatening to enforce a non-compete clause against a worker, advising a worker against pursuing a particular job opportunity due to a non-compete clause, or representing to a worker that the worker is covered by a non-compete clause.
The Proposed Rule in Context
Historically, states have found non-compete agreements to be enforceable where reasonably necessary to protect the employer’s legitimate business interests. For example, many states enforce non-compete agreements in order to protect an employer’s trade secrets and proprietary information, where the employee earns above a specified salary threshold and/or where the employee is an executive or management-level personnel. Whether a non-compete clause is enforceable has previously been a fact-intensive analysis, resulting in countless judicial decisions, statutes and regulations. The Proposed Rule departs from this precedent and provides only two narrow exceptions for a non-compete to be enforceable. First, non-competes executed in connection with the sale of a business are permitted, but only as to “substantial owners or members” of the business, defined as persons owning more than 25% of the entity. Second, the term “worker” does not include a franchisee in the context of a franchisee-franchisor relationship; however, the term “worker” includes a natural person who works for the franchisee or franchisor. When enacted, the Proposed Rule expressly supersedes any state law that is inconsistent with the rule.
Although the Proposed Rule effectively bans nearly all post-employment non-competition agreements, the rule does not impact other types of restrictive employment covenants, such as confidentiality agreements, non-disclosure agreements or client non-solicitation agreements. Moreover, the non-compete ban would apply only to post-employment restraints, not concurrent-employment restraints. Accordingly, to ensure continued protection of their confidential or proprietary business interests, employers may seek to implement the use of other types of restrictive agreements that do not prevent a worker from seeking or accepting alternate employment after the conclusion of the employment relationship.
The Proposed Rule is subject to a 60-day public comment period, during which interested parties may submit comments. Given the breadth of impacted entities, thousands of comments will likely be submitted to the agency. This may slow the FTC’s efforts to adopt a final rule, as regulators must assess the range of public feedback provided on a proposal before releasing final revisions. Because of the FTC’s sweeping approach, any final rule is also likely to face legal challenges. However, such delays are far from certain. Therefore, employers should consider certain actions in response to and preparation for the rule’s development.
In addition to considering the submission of comments, employers should identify and review existing policies and agreements that may be impacted by the Proposed Rule. Employers may also begin to identify all current and former employees who are subject to a non-compete agreement and begin developing alternative policies and procedures to protect their business interests. Brownstein Hyatt Farber Schreck’s Labor and Employment and Government Relations teams are prepared to assist employers in preparing comments and with their broader response. Please contact a member of either team if you have any questions or for additional support.
THIS DOCUMENT IS INTENDED TO PROVIDE YOU WITH GENERAL INFORMATION REGARDING NEW FTC RULES ON NON-COMPETE. THE CONTENTS OF THIS DOCUMENT ARE NOT INTENDED TO PROVIDE SPECIFIC LEGAL ADVICE. IF YOU HAVE ANY QUESTIONS ABOUT THE CONTENTS OF THIS DOCUMENT OR IF YOU NEED LEGAL ADVICE AS TO AN ISSUE, PLEASE CONTACT THE ATTORNEYS LISTED OR YOUR REGULAR BROWNSTEIN HYATT FARBER SCHRECK, LLP ATTORNEY. THIS COMMUNICATION MAY BE CONSIDERED ADVERTISING IN SOME JURISDICTION.