“Non-competes block workers from freely switching jobs, depriving them of higher wages and better working conditions.” So says Lina M. Khan, Chair of the Federal Trade Commission (FTC). On January 5, 2023, the FTC published a proposed rule that would ban employers from imposing non-compete agreements. According to the FTC, “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 represent to a worker that the worker is subject to a non-compete clause.” The FTC asserts that non-competes violate Section 5 of the Federal Trade Commission Act, which prohibits unfair trade methods.
The proposed rule defines a worker as “a natural person who works, whether paid or unpaid, for an employer. The definition includes an employee, an independent contractor, extern, intern, volunteer, apprentice, or sole proprietor who provides a service to a client or customer.” It is important to note the expanse of this definition as it seeks to cover a broad range of employment relationships.
Further, according to the proposed rule, a non-compete clause is “a 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.” Other restrictive covenants, such as non-disclosure or non-solicitation agreements, are purportedly not covered by the proposed rule. However, the rule does apply a functional test for determining whether any contractual language constitutes a non- compete. Pursuant to review through the functional test, any clause may be determined to be a “de facto non-compete clause” if it has the effect of prohibiting an employee from seeking or accepting employment with another entity after the conclusion of the immediate employment relationship. Under this test, any clause that ultimately compromises the employee’s ability to seek future employment with another business could be struck down. The rule seeks to abolish any non-compete contractual language
To this end, the proposed rule requires an employer that has entered into any prior non-compete clause with an employee to rescind the non-compete clause no later than the “compliance date” of the rule. The compliance date has not yet been confirmed. Currently, the FTC seeks public comment for 60 days or until March 10, 2023. Thereafter, the compliance date will be set 180 days after publication of the final rule. Following rescission of a non-compete clause, the employer must provide written or digital notice to the worker within 45 days. The rule does provide model language for the notice requirement. Legal challenge to the rule and its enforceability is anticipated which may delay finalization.
There is limited exception to the application of the proposed rule. The rule does not apply to a non-compete clause that is entered into by a person who is selling a business entity, disposing of ownership interest in the business entity, or liquidating operating assets provided the “restricted person” is a substantial owner, member or partner in a business at the time the parties enter into the non-compete clause. Part of the apparent reasoning behind the proposed rule is that employers allegedly utilize an unfair advantage over employees in negotiating or imposing non-compete compliance. The exception recognizes a place for non-compete agreements in specific business relationships where there is equity of position between the parties. This is not a matter of interpretation. It is subject to the language of the exception.
Beyond this noted exception, the intent of the application of the rule is absolute. To be clear, the proposed rule suggests that any application of a non-compete, beyond the noted exception, is to be abolished. Within the language of the proposed rule, there is no reference to the various forms of application of non-compete language such as time of hire, time of position change, termination or resolution. Instead, the proposed rule broadly defines the parties protected by the rule. It suggests that other clauses will not be affected by the rule, however, it also applies a functional test which can provide a basis to strike down any clause that includes non-compete language or intent. In so doing, the proposed rule does not outline all possible prohibitions, but rather it makes clear that if the exception does not apply, any non-compete language should be banned or rescinded.
According to the FTC, the proposed rule seeks to promote “innovation and healthy competition.” The FTC maintains that the use of non-compete language significantly restricts mobility and suppresses wages. In short, non-competes limit competition. They prevent new companies from competing in the market because they inhibit their ability to attract skilled, qualified candidates. That is the position of the FTC.
At present, the proposed rule has been offered for public comment. It is neither finalized nor formally published. We encourage employers to familiarize themselves with the rule and its potential impact on their business relationships and protections should it be finalized and enforced as written. Employers should seize the opportunity to voice opinions, concerns, and constructive comments. The FTC has provided an opportunity for address. Comments may be submitted to www.ftc.gov.
Although it is not finalized, the FTC is using their self-perceived authority under Section 5 of the FTCA to review employment practices. They have already brought claims against several large employers. We expect both the proposed rule, and the enforcement authority, may be legally challenged. For now, employers with non-compete clauses may consider modification of their policies and practices. Employers may also consider exploring alternatives to non-competes that provide similar protection of company information and relationships that are not subject to the restrictions of the rule.
If you would like to discuss this proposed rule and its potential impact on existing restrictive covenants, please feel free to contact Jim Devine, Esq. at email@example.com or 1-888-488-2638.
The information in this article is provided for general informational purposes only and may not reflect the current law in your jurisdiction. By reading this article, you understand that there is no attorney-client relationship between you and Cipriani & Werner, P.C., or any of our attorneys. No information contained in this article should be construed as legal advice from Cipriani & Werner, P.C. or the individual authors.