On January 5, 2023, the Federal Trade Commission (“FTC”) released a Notice of Proposed Rulemaking that would ban businesses from imposing or enforcing non-competition covenants on workers. The proposed rule would effectively serve as a complete ban on non-compete clauses and policies that have similar effect.
The basis for this proposed new rule is the FTC’s position that non-compete clauses constitute an unfair method of competition which violates Section 5 of the Federal Trade Commission Act. The FTC reasons that the businesses have used an unequal bargaining power to coerce workers into signing these contractual obligations, which has limited competition in U.S. labor markets, prevented workers from pursuing better job opportunities and thwarted the ability of businesses to hire the best available talent. As a result of this proposed rule, the FTC believes that workers’ earnings could increase by nearly $300 billion per year.
The FTC’s opposition to non-compete clauses directly results from the policy of the Biden Administration. On July 9, 2021, President Biden issued an executive order titled “Promoting Competition in the American Economy”, which encouraged the FTC to adopt rules banning or limiting the use of non-competition agreements. Since such executive order, the FTC has increased its enforcement against non-competition clauses. Now, they are proposing to outright ban them.
The FTC’s proposed rule would generally prohibit employers from using non-compete clauses to:
• enter into or attempt to enter into a non-compete clause with a worker;
• maintain a non-compete clause with a worker; or
• represent to a worker that, under certain circumstances, the worker is subject to a non-compete clause.
The proposed rule would apply to independent contractors and anyone who works for an employer, whether paid or unpaid. It would also require employers that maintain non-competes to rescind those covenants and actively inform workers that such clauses are no longer in effect.
The proposed rule defines a non-compete clause as an agreement that prevents a worker from seeking or accepting future employment or opening their business after ending their employment with their employer. Such definition would also include “de facto” non-compete clauses that have the effect of such prohibited conduct. The proposed rule provides two examples of such de facto non-competes: (1) a non-disclosure agreement written in such a way that effectively precludes a worker from working in the same field after ending employment with an employer; and (2) a contractual term that requires a worker to pay the employer for training cost if the worker’s employment is terminated within a specified period. Accordingly, while the proposed rule would not generally apply to other types of employment restrictions, like non-disclosure agreements, businesses will have to be careful not to trigger these prohibited de facto clauses.
The proposed rule does provide an exception for individuals selling a business entity, ownership interest in a business entity or all of a business entity’s operating assets where the individual restricted by the non-compete covenant was a substantial owner, member, or partner in the business entity.
The Commission voted 3-1 to publish the Notice of Proposed Rulemaking, which is the first step in the FTC’s rulemaking process. The public is invited to submit comments on the proposed rule. The FTC will review the comments and then may make changes in a final rule based on the comments and on the FTC’s further analysis of this issue.
So, where does this leave business owners? Well, the proposed rule is not law yet. However, they should be reviewing their arrangements with their key employees to determine if they are relying on non-compete covenants. If they are, they may want to call their attorney to discuss alternative avenues of locking up key employees and protecting their business. These options could include golden handcuff benefits, such as deferred compensation arrangements, and other creative planning opportunities. Your Stark & Knoll attorney remains available to help you with these challenges.
By: Michael E. George, Esq.