On January 5, 2023, the Federal Trade Commission (“FTC”) issued a Notice of Proposed Rule Making and additional information describing a new proposed rule that would prohibit employers across the country from entering into non-compete agreements with their workforce. The FTC’s press release and related information on the proposed rule can be found here.
The FTC’s proposed rule is in response to a prior Executive Order from President Biden, which, among other things, encouraged the FTC to use its rule-making authority to “to curtail the unfair use of non-compete clauses and other clauses or agreements that may unfairly limit worker mobility.” At the time, few people likely anticipated the broad sweeping prohibition that would follow under the FTC’s current proposed rule.
Below is a summary of a few key aspects from the FTC’s proposed rule:
- Broad Definition of a Non-Compete Clause – A non-compete clause is defined as “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.” (Proposed as 16 C.F.R. § 910.1(b)(1).)
- Functional Test Used to Determine if a Contractual Clause is a Non-Compete Clause – In addition to the broad definition discussed above, a non-compete clause includes “a contractual term that is a de facto non-compete clause because it has the effect of prohibiting 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.” (Proposed as 16 C.F.R. § 910.1(b)(2) (emphasis added).) The proposed rule provides examples of a few types of contract provisions that may be de facto non-compete clauses. One such example is “a non-disclosure agreement between an employer and a worker that is written so broadly that it effectively precludes the worker from working in the same field after the conclusion of the worker’s employment with the employer.” (Proposed as 16 C.F.R. § 910.1(b)(2)(ii).)
- The Proposed Rule Applies to More than Just Employees – The proposed rule’s broad ban on non-compete clauses applies not only to employees, but also to independent contractors, externs, interns, volunteers, apprentices, and individual sole proprietors who provide a service to a client or customer. (Proposed as 16 C.F.R. § 910.1(f).)
- Existing Non-Competes Must be Rescinded with Notice to Current and Former Workers – As all future non-compete clauses would be banned under the proposed rule, employers would also be required to rescind existing non-compete clauses that are entered into prior to the compliance date of the proposed rule (which is currently set for 180 days after publication of the FTC’s final rule). In order to rescind existing non-compete clauses, employers must provide written notice to both current and former workers (see broad definition above) bound by non-compete clauses (see broad definition above). The written notice must be provided in an individualized communication on paper or in a digital format (such as email or text message). The proposed rule also provides model language that would satisfy this written, individualized notice requirement to current and former workers. (Proposed as 16 C.F.R. § 910.2(b)(2)(C).)
- Narrow Exception for the Sale of a Business – The proposed ban on non-compete clauses does not apply to a non-compete clause entered into between a buyer and seller of a business so long as the individual restricted by the non-compete is a substantial owner, member, or partner of the business (meaning the individual holds at least 25% interest in the business entity) at the time the individual enters into the non-compete clause. (Proposed as 16 C.F.R. § 910.3.)
- Proposed Rule Supersedes Any State Law – The proposed rule is intended to supersede all state laws, regulations, orders, and interpretations of them that is not consistent with the proposed rule’s requirements. Nonetheless, states will still be permitted to impose requirements and restrictions against non-compete clauses if they provide greater protections than those provided by the proposed rule.
The FTC’s proposed rule is at the first stage of the rule making process, where feedback is being solicited from the public. As part of the public comment period, the FTC is seeking comment on several alternatives to the proposed rule, including whether different standards should apply to senior executives (something short of a ban), and whether low-wage and high-wage workers should be treated differently under the proposed rule. The public comment period is open until March 10, 2023. Comments on the proposed rule can be made and viewed here.
The FTC’s proposed rule is further indication of the growing scrutiny over non-compete restrictions, particularly as they relate to low-wage earners. In fact, a number of states have already introduced new bills in the early legislative sessions of 2023 that would significantly limit the use of non-compete provisions in the employment relationship. Some of those states include New Jersey, New York, and West Virginia.
The FTC’s proposed rule has already faced opposition, including a dissenting statement from FTC Commissioner Christine S. Wilson, and an announcement from the US Chamber of Commerce declaring the proposed rule “blatantly unlawful.” There will undoubtedly be legal challenges to the proposed rule should it become a final rule (much like the legal challenges raised against OSHA’s COVID-19 vaccination rule). As a result, it will likely be some time before we know whether the FTC’s propose rule is the beginning of the end for non-compete agreements in the workplace. We will continue to monitor and provide updates as the FTC’s proposed rule moves through the administrative process.