On July 9, 2021, President Biden issued an Executive Order on Promoting Competition in the American Economy, directing the Federal Trade Commission (“FTC”) to “exercise the FTC’s statutory rulemaking authority under the Federal Trade Commission Act to curtail the unfair use of non-compete clauses and other clauses or agreements that may unfairly limit worker mobility.” Exec. Order No. 14036 (2021).
On January 5, 2023, the FTC proposed such a rule, which can be found on the FTC website, at https://www.ftc.gov/legal-library/browse/federal-register-notices/non-compete-clause-rulemaking. The FTC is seeking public comment on the proposed rule, which would apply to independent contractors and employees, paid or unpaid. The FTC will review the public comments, seek additional information and research, and issue a final rule. Public comments on both the proposed non-compete ban and various alternatives are due on March 10, 2023. If adopted by the FTC, the rule would go into effect 180 days after publication of the final version.
Substance of the Proposed Rule
The rule would add a new subchapter J, consisting of part 910, to chapter I in title 16 of the Code of Federal Regulations, titled Rules Concerning Unfair Methods of Competition, Part 910—Non-Compete Clauses.
As part of the proposed rule, the FTC defines a non-compete clause 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.” See proposed § 910.1. The rule also includes a definition for a “functional test for whether a contractual term is a non-compete clause:”
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. For example, the following types of contractual terms, among others, may be de facto non-compete clauses:
i. 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.
ii. A contractual term between an employer and a worker that requires the worker to pay the employer or a third-party entity for training costs if the worker’s employment terminates within a specified time period, where the required payment is not reasonably related to the costs the employer incurred for training the worker.
Id.
At its core, the proposed rule bans non-compete clauses. The proposed rule states that “it is an unfair method of competition” for an employer to enter into a non-compete clause with a worker, “maintain” a non-compete clause with a worker or lead a worker to believe he or she is subject to such a clause without a good faith basis for doing so. See proposed § 910.2(a).
The proposed rule further requires that employers who have entered into non-compete clauses prior to the establishment of the rule must rescind such clauses no later than “the compliance date,” which is 180 days after publication of the final rule. See proposed § 910.2(b), proposed § 910.5. Employers providing notice to employees regarding an existing non-compete clause, must do so “within 45 days of rescinding the non-compete clause.” See proposed § 910.2(b)(2)(A). The notice applies not only to current employees, but also to former employees, “provided that the employer has the worker’s contact information readily available.” See proposed § 910.2(b)(2)(B). The FTC has also provided model language that employers can use to provide notice to employees regarding recission of non-compete clauses. See proposed § 910.2(b)(2)(C).
The sole exception to the proposed rule makes clear that the ban on non-compete clauses shall not apply to individuals selling a “business entity or otherwise disposing of all” or substantially all of that person’s ownership interest in said entity. See proposed § 910.3. The individual restricted by the non-compete clause must be a substantial owner, member, or partner in the business entity at the time the person enters the noncompete clause. Id. Lastly, the proposed rule supersedes any state statute, regulation, or order that is inconsistent with the proposed rule, unless such statute, regulation, or order provides greater protections than provided for under the proposed rule. See proposed § 910.4.
What Does This Mean For Employers?
Whatever version of this rule is adopted by the FTC will undoubtedly affect employment relationships involving non-compete clauses and possibly other restrictive covenants. In the short term, this means one thing: we recommend that employers conduct an audit of employees who are subject to non-compete clauses and consider any possible ramifications in the event the proposed rule is passed as it stands. It is also possible that the rule will be modified from its current version, so that it would only prohibit non-compete clauses for employees under a certain salary threshold, or only apply to certain industries or employee classifications. It is also possible that the rule could face legal challenges before it is adopted.
Finally, employers may consider submitting comments to the FTC, as this proposed rule may dramatically shift the landscape of employment law; one of the most fundamental elements of an employers’ toolkit could be outlawed. Employers should begin to consider other ways to protect trade secrets and proprietary information so that competitors do not obtain this information through former employees in the absence of non-compete clauses.
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