On January 5, 2022, the United States Federal Trade Commission (FTC) announced a Proposed Rulemaking that would prohibit the inclusion of “non-compete” clauses in contracts related to employment as unfair methods of competition.
Non-compete clauses are provisions in employment agreements that block employees from working for a competing employer or starting a competing business within a specified geographic space and time period after their employment ends. Non-compete clauses are often included within employment agreements, but they can also stand alone as separate contracts.
The enforceability of non-compete clauses is governed by state laws, which vary from state to state. Many states have already restricted the use of non-compete clauses to comply with public policy. For example, states have limited the scope of geographic and time constraints, imposed wage and timing requirements, and created blue pencil policies to allow courts to enforce a modified version of an overbroad non-compete clause. Additionally, some states such as California have banned the use of non-compete clauses entirely.
While some states have already restricted or banned the use of non-compete clauses, the FTC‘s Proposed Rule would effectively prohibit the use of non-compete clauses in employment contracts nationwide.
The FTC‘s Rule proposes to:
1. Prohibit the use of non-compete clauses in employment contracts,
2. Expand what constitutes a non-compete clause,
3. Broadly define the workers to whom the policy applies,
4. Carve out a limited exception,
5. Create rescission and notice requirements for existing non-compete clauses, and
6. Supersede all current state laws governing non-competes.
First, if the Rule goes into effect, employers would be prohibited from (a) entering into or attempting to enter into a non-compete clause with a worker; (b) maintaining a non-compete clause with a worker; and (c) representing to a worker that the worker is subject to a non-compete clause where the employer has no good faith belief that the clause is enforceable.[i]
Second, the Rule would create a functional test to determine whether a contractual term is a non-compete clause.[ii] Therefore, the prohibition would stretch broadly to ban both explicit and de facto non-compete clauses and agreements. A de facto non-compete clause or agreement is one which has the effect of a non-compete clause, even though it is called something else. For example, a non-disclosure agreement that is written so broadly that it effectively precludes the employee from working in the same field after the employee‘s employment with the employer ends is considered a de facto non-compete agreement.[iii]
Third, the Rule would define “worker” broadly to include any natural person who works for an employer whether paid or unpaid. This would include employees, independent contractors, and any other category of worker.
Fourth, the Rule carves out a limited exception for situations where a business owner is selling their entire ownership interest in a business or all or substantially all of a business‘s operating assets. In that situation, the business owner could be restricted from competing against the buyer, and a non-compete clause would be permissible.[iv]
Fifth, the Rule would apply retroactively to non-compete clauses already in existence. Employers would be required to rescind all existing non-compete clauses with current and former workers and provide notice to those workers within 45 days of rescission.[v] The notice must specify, in an individualized communication on paper or in a digital format, that the worker‘s non-compete clause is no longer in effect and may not be enforced against the worker.
Sixth, the Rule specifies that it would supersede any State statute, regulation, order, or interpretation, unless that State statute, regulation, order or interpretation affords protection to any worker that is greater than the protection afforded under the Rule.[vi]
The FTC has invited members of the public to submit comments on this Rulemaking during a 60-day public comment period ending on March 10, 2023. Afterwards, the FTC will review comments and may make changes to the Rule before publishing it in a Final Rule. Once published, the Final Rule will be adopted as a formal federal regulation and take effect 180 days after publication. [vii]
Sinayskaya Yuniver, P.C. will release updates as they become available. If you have any questions about the Proposed Rule, please do not hesitate to contact our office.
[i] 16 CFR § 910.2(a)
[ii] 16 CFR § 910.1(b)(2)
[iii] 16 CFR § 910.1(b)(2)(i)
[iv] 16 CFR § 910.3
[v] 16 CFR §§ 910.2(b)(1)-(2)(B)
[vi] 16 CFR § 910.4
[vii] 16 CFR § 910.5