By Joshua S. Kreitzer
Over the course of our practice, our firm has prepared many employment contracts that included non-compete clauses, but it’s unlikely that we’ll be drafting many such clauses in the future. The Federal Trade Commission (FTC) has issued a regulation which will ban future non-compete clauses and prohibit most non-compete clauses already in effect from being enforced. This regulation is scheduled to take effect on September 7, 2024.
A “non-compete clause” is defined in the FTC’s regulation as a term or condition of employment that prohibits a worker from, penalizes a worker for, or functions to prevent a worker from (1) seeking or accepting work in the United States with a different person where such work would begin after the conclusion of the employment that includes the term or condition, or (2) operating a business in the United States after the conclusion of the employment that includes the term or condition.
The regulation states that it is an “unfair method of competition,” with regard to most workers, to (a) enter into or attempt to enter into a non-compete clause with them; (b) enforce or attempt to enforce a non-compete clause against them; or (c) represent to the worker that they are subject to a non-compete clause.
The regulation provides somewhat different rules for “senior executives” – that is, persons in policy-making positions who earn at least $151,164 per year. Policy-making positions include presidents, CEOs, any other officer of a business entity who has policy-making authority, or any other natural person who has similar policy-making authority for the business entity.
For senior executives, it is still considered an unfair method of competition to enter into or attempt to enter into a non-compete clause with a senior executive. However, it is permissible to enforce a non-compete clause against a senior executive that was entered into before the effective date of the regulation. (If a business attempts to enter into a non-compete clause with a senior executive after the effective date, the rule provides that it would indeed be an unfair method of competition for the business to enforce or attempt to enforce that non-compete clause, or to represent to the senior executive that the senior executive is subject to the non-compete clause.)
Although non-compete clauses were already void in a few states – in California, North Dakota, and Oklahoma since the 19th century, and in Minnesota since 2023 -- this regulation came about because, according to the FTC, the use of non-compete clauses tends to limit competition in labor markets and suppresses wages for workers – whether or not those workers are themselves subject to non-compete clauses. The FTC has estimated that approximately 30 million American workers are currently subject to non-compete clauses – one-fifth of the American workforce. That includes not only highly paid employees, but also 13% of workers earning under $40,000 per year.
The FTC, in deeming the creation of new non-compete clauses, as well as the enforcement of existing non-compete clauses against employees other than senior executives, to be “unfair methods of competition” is effectively banning those practices. The Federal Trade Commission Act authorizes the FTC to prevent businesses from engaging in unfair methods of competition, to enjoin them from doing so, and to impose civil penalties if the business violates an FTC order.
Employers who have non-compete clauses in effect that are now being invalidated must inform employees that the non-compete clause will no longer be enforced. Such notice must be given in person, by mail, by e-mail, or by text message. The FTC regulation provides specific language to be used in the notice.
There are certain exemptions from the FTC’s new regulation. In particular, the regulation itself excludes from coverage any non-compete clause entered into pursuant to a bona fide sale of a business entity, of a person’s ownership interest in a business entity, or of all or substantially all of a business entity’s operating assets. It seems unlikely that such non-compete provisions would be abolished in the future, because, unlike the situation with employment agreements, the sale of a business typically involves a negotiation between parties each of whom has bargaining power.
The regulation does not prevent employers from prohibiting employees for working for other employers simultaneously with their current employment – rather, it only applies to restrictions applicable after the current employment has concluded. The rule also does not apply to restrictions on workers from working for competing employers or operating a business outside the United States; the FTC has left the regulation of such restrictions to be dealt with by foreign countries.
The FTC’s new regulation also does not apply to certain types of businesses which are not subject to the Federal Trade Commission Act’s provisions regarding unfair methods of competition. Among these are banks, savings and loans, Federal credit unions, common carriers such as railroads and bus lines, airlines, and meatpackers and stockyards, all of which are regulated under other Federal laws. That said, if the FTC’s regulation against non-compete clauses remains in effect, it would not be surprising to see other Federal agencies impose similar prohibitions upon the industries they regulate.
But employers will still have other ways to protect their valuable investments and that’s where the action will be. Specifically, the Federal government and states have enacted laws to protect trade secrets, under which employers can bring civil actions against employees for misappropriating confidential information, with remedies including injunctive relief, damages (including punitive damages), and attorney’s fees. In addition, employers can and do enter into non-disclosure agreements (“NDAs”), contracts in which a party agrees not to disclose or use information designated as confidential. The new FTC regulation does not seek to restrict the use of NDAs, unless an NDA is so overbroad as to function to prevent a worker from seeking or accepting employment or operating a business.
The regulation against non-compete clauses is currently subject to a legal challenge. The U.S. Chamber of Commerce, along with other organizations, has joined in a lawsuit against the regulation brought by Ryan, LLC, a tax services provider, in the U.S. District Court for the Northern District of Texas. The lawsuit asserts that the FTC lacks the power to institute such a rule, that the regulation is unlawfully retroactive (by invalidating non-compete clauses previously entered into), that the FTC acted arbitrarily and capriciously, and that the FTC failed to consider alternative proposals. The plaintiffs have moved for a stay of the effective date and a preliminary injunction against the regulation. The court expects to rule on that motion by Wednesday, July 3.
Even if the court were to issue a stay, the case will be far from over. Ultimately, the decision whether the FTC properly issued a rule to ban non-compete clauses could wind up in the U.S. Supreme Court – and even if the Supreme Court were to rule against the FTC, Congress could act to ban non-compete clauses. But for the time being, the days of the non-compete clause in employment contracts may be numbered.
We would be happy to discuss the most effective strategies and tactics to protect your business assets. Please feel free to contact Marc Lane in confidence at mlane@marcjlane.com or 312/800-372-1040.
Joshua S. Kreitzer is a Senior Associate Attorney with The Law Offices of Marc J. Lane, P.C.