By George H. Singer
On April 23, 2024, the Federal Trade Commission (FTC) issued a final rule banning most noncompete agreements nationwide.1 These common agreements prohibit employees from leaving a job to work for a competitor or starting a competing business. The rule would prevent U.S. companies from being able to stop employees from taking new jobs with competitors. It would bar employers from using noncompetes moving forward and retroactively wipe out existing agreements for most employees.
The FTC announced that the new rule will provide millions of American workers with more freedom to pursue other job opportunities, seek higher pay, and increase entrepreneurship in the United States.2 The U.S. Chamber of Commerce and other business groups filed a lawsuit challenging the rule less than 24 hours after it was issued.3
Key points of Final Rule
- The ban is set to take effect 120 days after the FTC rule is officially published in the Federal Register, which should result in an August effective date unless the business groups are successful in blocking or suspending the ban in the interim.4
- The Final Rule is broad. It prohibits any contractual provision that “penalizes a worker for, or functions to prevent a worker from,” “seeking or accepting work” or “operating a business” in the United States.5 In other words, the Final Rule prohibits employers from entering into or trying to enter into any noncompete with a worker.
- The Final Rule defines “worker” to include employees and independent contractors.6
- The Final Rule prohibits businesses and their workers from entering into most noncompetes going forward and also retroactively invalidates existing agreements.7
- Employers are required to provide written notice to all current and former non-senior-executive workers who have a noncompete that their noncompete restrictions are no longer in effect and that there are no limitations on their ability to work (even for a competitor). The notice required must be clear and conspicuous and in an individualized communication addressed to employees subject to a noncompete (past and present). To provide a safe harbor to employers, the FTC has provided model language, which should be used.
- The Final Rule stipulated that trade secret laws and nondisclosure agreements will continue to be available to protect the legitimate interests of employers. As such, appropriately tailored nondisclosure agreements that do not functionally prevent workers from seeking other employment or starting a business are permissible under the Final Rule.
- The Final Rule does not apply to restrictions that operate outside the United States and does not apply to nonprofits or banks and other financial institutions.
- The Final Rule does not apply to any noncompete that is entered into as part of a “bona fide sale of a business.”
- Noncompetes with “senior executives” that are in effect when the Final Rule becomes effective will be permitted to remain in force.8 A “senior executive” is defined as a worker who earns more than $151,164 and is in a “policy-making position” (i.e. a significant aspect of the business). The carve-out from the Final Rule for senior executives reflected a recognition by the FTC that such senior individuals are in a different bargaining position than most workers and that the compensation package for the executive reflects a freely negotiated arrangement that is not present across all income levels.
- A violation of the Final Rule is an “unfair method of competition” that violates Section 5 of the FTC Act and can result in fines, penalties, and injunctive relief.
Final Rule challenge
The FTC chair believes that the Final Rule will have a real impact on real people and will lead to higher earnings for workers. In addition, the FTC believes that eliminating the barriers of noncompete agreements will lead to new business formation growing by 2.7 percent, resulting in more than 8,500 additional new business created each year. The Final Rule will also increase innovation since the shackles of noncompetes will be unlocked.9
The immediate challenge by the business community to the Final Rule has been launched by litigation in federal court in Chamber of Commerce v. FTC.10 The Chamber of Commerce and other groups in the litigation are seeking to block the new rule as well as to obtain a temporary injunction prohibiting its implementation pending the resolution of the litigation.
The plaintiffs opposing the new FTC rule are arguing that noncompete “agreements benefit employes and workers alike—the employer protects its workforce investments and sensitive information, and the worker benefits from increased training, access to more information, and an opportunity to bargain for higher pay.” The essence of the lawsuit is based upon the business community’s view that the FTC lacks the legal authority to adopt such a sweeping rule and micro-manage business agreements under the guise of “unfair competition.” The FTC’s rulemaking authority, according to the plaintiffs, cannot usurp the function of Congress and take over an area that has been traditionally regulated by states.
Minnesota law bans noncompetes
Minnesota has already implemented a complete ban on employee noncompete agreements that became effective on July 1, 2023. Minnesota’s new law, codified at Minnesota Statutes §181.988, is comprehensive. It extinguishes most noncompetes in a manner similar to the Final Rule adopted by the FTC.11 The Final Rule preempts state laws in the event that such laws conflict with the Final Rule.
The bottom line
Employers who have traditionally used noncompete provisions as part of a strategy to protect legitimate business interests cannot ignore the breadth of the Final Rule and, in Minnesota, the new law that has been in effect for less than one year. Employers should carefully follow whether the Final Rule is enjoined as well as the deadline for compliance (should the rule remain intact). Employers should also understand that the FTC and other regulatory authorities have become increasingly active and enforcement by the FTC, the DOL, and other agencies can be a real possibility.
New employment-related contracts and independent contractor agreements must be structured to eliminate noncompete provisions in Minnesota and, if the Final Rule survives attack, elsewhere. Business owners should also consider revisiting, and perhaps updating, existing agreements and internal policies in light of the new laws. A thoughtful analysis by employers with respect to whether tailored confidentiality and nonsolicitation agreements are sufficient to adequately protect their interests should be undertaken now.
GEORGE H. SINGER is a partner with Holland & Hart LLP and practices in the areas of corporate and commercial law, including corporate finance, restructuring matters and risk management. Mr. Singer is a fellow of the American College of Bankruptcy.
Notes
1 See Fed. Trade Comm’n, Non-Compete Rule, RIN2084-AB74 (4/23/2024) (Final Rule); See also https://www.ftc.gov/news-events/news/press-releases/2024/04/ftc-announces-rule-banning-noncompetes (4/23/2024). The vote by the FTC commissioners adopting the Final Rule was held in open session and adopted based on a 3-2 vote. The vote was cast along party lines, with Democratic commissioners in favor and Republicans opposed. The opposing commissioners expressed their concern that the FTC lacks authority to promulgate the Final Rule.
2 “Noncompete clauses keep wages low, suppress new ideas, and rob the American economy of dynamism, including from the more than 8,500 new startups that would be created a year once noncompetes are banned. The FTC’s Final Rule to ban noncompetes will ensure Americans have the freedom to pursue a new job, start a new business, or bring a new idea to market.” Id. (statements of FTC Chair Lina M. Khan).
3 See Chamber of Commerce v. FTC, Case No. 6:24-cv-00148 (E.D. Tex. 4/24/2024).
4 The plaintiffs seek an order delaying the effective date and the implementation of the Final Rule pending the conclusion of the case.
5 Final Rule, at 561-62.
6 Id. at 564.
7 Id. at 344-45.
8 https://www.ftc.gov/news-events/news/press-releases/2024/04/fact-sheet-ftcs-proposed-final-noncompete-rule
9 Id.
10 Case No. 6:24-cv-00148 (E.D. Tex. 4/24/2024).
11 See George H. Singer, Minnesota reforms law to ban (almost) all noncompete agreements, Minnesota Bench & Bar (August 2023) (setting forth a summary of the Minnesota law and its implications). New York and California have also undertaken efforts in recent years to strengthen restrictions on noncompetes.