On January 5, 2022, the Federal Trade Commission (FTC) sent shock waves through the U.S. with the issuance of a proposed new rule that would effectively end the use of non-compete clauses nationwide.
The proposed rule, styled as the “Non-Compete Clause Rule”, is unquestionably good news for the U.S. workforce, although many powerful interest groups supported by large businesses will certainly challenge the constitutionality of the Non-Compete Clause Rule. Certain U.S. States that presently allow non-compete clauses may also file suit.
If implemented in its present form, the proposed Non-Compete Clause Rule would be one of the biggest legal developments for the U.S. workforce in decades. The FTC estimates that approximately one in five American workers – or approximately 30 million workers – are subject to non-compete clauses. The FTC further noted a survey finding that approximately 38% of Americans have worked under a non-compete clause at some point in their lives.
The information below provides: (i) a summary of the Non-Compete Clause Rule; (ii) details about key provisions; and (iii) recommended next steps. You can also find the 4-page FTC Fact Sheet Notice here and the complete 216-page Notice of Proposed Rule Making here. Disclaimer: Nothing in this article is legal advice. It is crucial that you speak with an attorney who specializes in non-compete law if you may be impacted by the proposed Non-Compete Clause Rule.
Summary of the FTC Proposed Non-Compete Clause Rule
The proposed rule provides that it is an unfair method of competition – and therefore a violation of Section 5 of the Federal Trade Commission Act – for an employer:
- To enter into or attempt to enter into a non-compete clause with a worker;
- To maintain with a worker a non-compete clause; or
- Under certain circumstances, represent to a worker that the worker is subject to a non-compete clause.
Additionally, the proposed rule requires employers who presently maintain non-compete clauses with workers to rescind the non-competes and provide notice to the impacted workers that the non-compete clauses are no longer in effect. To facilitate compliance, the FTC will allow employers to use subsequently issued model language to satisfy the notice requirement.
Key Provisions of the Proposed Non-Compete Clause Rule
1. Which employers and workers would be subject to the Proposed Non-Compete Clause Rule?
Virtually all. The proposed rule defines “employer” as a person that hires or contracts with a worker to work for the person. The proposed rule defines a “worker” as a natural person who works, whether paid or unpaid, for an employer. This broad definition of worker includes employees, individuals classified as independent contractors, externs, volunteers, apprentices, or a sole proprietor who provides a service to a client or customer.
2. What is considered a “non-compete clause” subject to the Non-Compete Clause Rule?
A “non-compete clause” subject to the proposed rule 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.” Whether a contractual provision is a non-compete clause would depend not on what the provision is called, but on how the provision functions.
The proposed rule clarifies that other restrictive covenants that do not meet that definition are not prohibited, such as non-disclosure provisions (aka NDAs) and non-solicit provisions. However, under the proposed definition, such restrictive covenants would be considered a non-compete clause if they are so broad in scope that they effectively function as a non-compete clause.
3. What exceptions apply to the Non-Compete Clause Rule?
The proposed rule includes a limited exception for non-compete clauses between the seller and buyer of a business. This exception would only be available where the party restricted by the non-compete clause is an owner, member, or partner holding at least 25% ownership interest in a business entity.
4. Does the proposed Non-Compete Clause Rule impact franchisors-franchisees?
No. The proposed rule clarifies that the definition of “worker” does not include a franchisee in the context of a franchisee-franchisor relationship.
5. If the Non-Compete Clause Rule goes into effect, what alternatives do employers have to protect their legitimate business interests, such as client relationships, confidential information, specialized training, trade secrets, and other intellectual property?
Employers would still have at their disposal a wide panoply of legal rights and tools to protect their legitimate business interest, including, but not limited to:
- Non-solicit provisions
- Intellectual property laws, including the Lanham Act
- The Economic Espionage Act
- State trade secret laws and the federal Defense of Trade Secrets Act
- State common laws, including, for example, laws relating to fiduciary duties, tortious interference, theft, and defamation
To incentive workers not to quit and help employers recoup their investment in training workers, the FTC noted that employers may:
- Increase worker pay.
- Offer better hours or other worker conditions.
- Provide employment contracts for a fixed duration (i.e., no at-will employment and use “for cause” termination provisions), thereby providing a worker more job stability.
6. Which workers must receive notice of a non-compete clause recession?
Only workers who are subject to a non-compete clause. Notice is not required for any former workers whose non-compete clause has lapsed. The proposed rule included a model notice that, if used, protects an employer under a safe harbor provision.
7. What information must be included in the notice?
The proposed rule contains a model notice that, if used, protects an employer under a safe harbor provision. The model language is as follows:
A new rule enforced by the Federal Trade Commission makes it unlawful for us to maintain a non-compete clause in your employment contract. As of [DATE 180 DAYS AFTER DATE OF PUBLICATION OF THE FINAL RULE], the non-compete clause in your contract is no longer in effect. This means that once you stop working for [EMPLOYER NAME]:
- You may seek or accept a job with any company or any person—even if they compete with [EMPLOYER NAME].
- You may run your own business—even if it competes with [EMPLOYER NAME].
- You may compete with [EMPLOYER NAME] at any time following your employment with [EMPLOYER NAME].
The FTC’s new rule does not affect any other terms of your employment contract. For more information about the rule, visit [link to final rule landing page].
8. When is the deadline for employers to provide notice to impacted workers?
The notice must be issued by the employer within 45 days after rescinding the non-compete clause.
9. Does the proposed Non-Complete Clause Rule apply retroactively?
No, but with a major caveat. The FTC stated that the proposed rule would not apply retroactively. More specifically, until the proposed rule’s compliance date, an employer would not violate the proposed rule where it continues to enter into or attempts to enter into a non-compete clause with a worker; continues to maintain with a worker a non-compete clause; or continues to represent to a worker that the worker is subject to a non-compete clause.
Importantly, however, the proposed rule requires employers to refrain from these practices on the compliance date. Thus, it appears that, even if an employer continues to require workers to agree to non-compete clauses or enforced non-compete clauses through legal action, the worker would nevertheless no longer be bound by the non-compete clause effective on the proposed rules compliance date.
10. Do state restrictive covenant laws still apply?
Yes, but only to the extent that state laws afford greater protection to workers. In other words, the proposed rule would act as a federal “floor,” effectively overriding state laws that would otherwise allow for non-competes. Conversely, while the proposed rule generally does not limit NDAs or non-solicit provisions, such restrictive covenants may nevertheless still be subject to state laws that impose additional limitations.
11. What is the compliance date for the proposed Non-Compete Clause Rule?
While the proposed rule’s effective date is 60 days after the final rule is published in the Federal Register, the “compliance date” for the proposed rule is 180 days after the publication of the final rule.
The exact date for the publication of the final rule is known. However, assuming the proposed rule is not withdrawn – which is unlikely under the high-profile nature of the proposed rule – the final rule is generally issued within a few months after the comment period closes for the proposed rule. The comment period closes 60 days after the date of publication of the proposed rule in the Federal Register). While the proposed rule was announced on January 5, 2023, as of the date of this article, the proposed rule has not yet been published in the Federal Register.
As a result, employers should anticipate a compliance date likely between late 2023 and early 2024.
12. What should employers do next?
As context, the FTC calls the 180-day period between the publication of the final rule and the compliance date the “compliance period.” During the compliance period, the proposed rule recommends that employers consider the following actions:
- First, starting on the compliance date, employers are prohibited from maintaining existing non-compete clauses (i.e., non-compete clauses that the employer entered into with a worker prior to the compliance date). As a result, during the compliance period, employers would need to assess whether to implement replacements for existing non-compete clauses.
- Second, an employer would be prohibited from entering into new non-compete clauses starting on the compliance date. As a result, during the compliance period, employers would need to, for example, remove any non-compete clauses from employment contracts that they provide to workers.
- Third, starting on the compliance date (i.e., 180 days after publication of the final rule), an employer is required to rescind, no later than the compliance date, any non-compete clauses that it entered into prior to the compliance date.
- Finally, within 45 days of rescinding the non-compete clauses, employers must provide notice of such recission to the impacted workers.
FTC Soliciting Comments on Proposed Non-Compete Clause Rule
The FTC explicitly requested public comment on the many issues relating to the proposed rule, including for example:
- Whether non-compete clauses between employers and senior executives should be subject to a different standard than non-compete clauses with other workers.
- Whether low- and high-wage workers should be treated differently under the proposed rule.
These specific requests for comment could signal that the FTC is open to considering significant changes to the proposed rule with respect to the scope of its application.