Introduction
The Federal Trade Commission (“Commission”), after meticulous review and consideration, including over 26,000 public comments, has determined that non-compete clauses (“non-competes”) are an unfair method of competition and thus violate section 5 of the Federal Trade Commission Act (the “Act”). In light of this, effective September 4, 2024, the FTC has adopted a comprehensive ban on new non-competes with all workers, including senior executives (the “Rule”). Existing non-competes with senior executives can remain in effect, ensuring a fair and balanced transition. Violations of the Rule can result in fines, injunctions and penalties.
Notice Requirement
Employers must notify workers that existing non-competes (except those with senior executives) will expire after September 4, 2024, and are no longer enforceable. The notice should include the last date the employer will not enforce the non-compete (no later than September 4, 2024) and that the employee is free to seek or accept a job with another company, even if that company competes with the employer. The Commission provides model language here: ftc.gov/noncompetes.
What is a non-compete clause?
The Commission defines a non-compete 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.”
A non-compete under this rule includes written and oral terms and conditions and any workplace policies.
A worker includes a “natural person,” regardless if the worker is a current or previous employee, an intern, is paid or unpaid and regardless of the worker’s title or status. A worker includes, but is not limited to, “employee, independent contractor, extern, intern, volunteer, apprentice or sole proprietor who provides a service to a person.”
The Commission noted that a forfeiture-for-competition clause, severance payments made only if a worker refrains from competing, similar to a demand for liquidated damages, “imposes adverse financial consequences on a former employee as a result of the termination of an employment relationship, expressly condition on the employee seeking or accepting other work or starting a business.” All of these examples would violate the Rule.
Exclusions and Exceptions
The Rule does not apply to non-competes entered into pursuant to a sale of a business entity. A business entity is “a partnership, corporation, association, limited liability company, or other legal entity or division or subsidiary thereof.” The Commission recognized the need to protect the value of a business a buyer just purchased, which also applies if the purchase is of a business division.
The Rule also does not apply where a cause of action related to a non-compete accrued before September 4, 2024.
The Commission acknowledges that a franchisee-franchisor relationship is similar to that between two businesses rather than between an employer and worker. Therefore, the Commission excludes a franchise from the contact of a franchisee-franchisor relationship. However, a person who works for a franchisee or franchisor is included in the worker definition.
The Senior Executive Exception
Generally, since senior executives have the ability to negotiate his or her terms, or because he or she may continue to receive a salary during the non-compete period, the Commission did not find these agreements to be exploitative or coercive. Therefore, existing non-competes with senior executives will continue to be enforceable for the duration of the agreed-upon term. The Rule defines a senior executive as a worker earning more than $151,164 who is in a “policy-making position,” meaning a business entity’s president, chief executive officer (“CEO”) or equivalent or any other natural person who has policy-making authority for the business similar to a president or CEO.
The Context for the Rule
Although non-competes have been restricted for hundreds of years through common law, the Commission found that the case-by-case and state-by-state approaches were insufficient to limit their harm to competitive conditions in the labor, product, and services markets.
The Commission evaluated the impact on everyday individuals across various industries. The Commission estimates that 30 million workers, including middle-income and low-wage workers, are subject to a non-compete. When the Commission turned to the medical industry, It further estimated that the ban will reduce the cost of billions of dollars in physician services over the next decade, will result in 8,500 new businesses and nearly 5,000 new patents, and increase wages by over $500 per year.
Effect on Non-Profits
The Commission is authorized to prevent corporations from engaging in unfair competition and stresses that “not all entities claiming tax-exempt status as nonprofits fall outside the Commission’s jurisdiction.” The Commission applies a two-part test to determine if an entity is actually for profit and thus subject to this Rule: there must be “an adequate nexus” between the entity’s activities and that the proceeds are truly for the public’s interest. Any entity that satisfies the precedential and judicial two-prong test and falls within the Commission’s jurisdiction would be bound by the Rule.
Do I Have to Comply? How Can I Protect Myself?
The Rule already faces challenges, so you have a few options you can consider, each with pros and cons that will apply differently to each business and location:
Business as usual – at least until there is a decision on the pending challenges to the Rule. It is possible there will be a stay on the effective date. Each additional worker with whom you sign a non-compete will need to receive notice.
Embrace the potential future by removing non-compete clauses from your templates.
Both. Keep the non-compete clauses in your agreements, but either limit the language or the workers it applies to. For example, do not include overly restrictive geographical regions that will impose an unreasonable hardship on a worker, or continue to negotiate non-competes with your senior executives.
If you have trade secrets to protect or are otherwise concerned with intellectual property or other trade secrets, ensure your non-disclosure and non-solicitation agreements are properly drafted to protect your assets. We here at Temple Law can discuss the best approach for you and review or modify your agreements or help you prepare exit interview checklists, based on your needs. Contact us today to see how our team can protect you.
Comments