Is the era of non-competes at an end? Well, maybe. Probably not. On January 5, 2023, the Federal Trade Commission (FTC) issued its long-anticipated proposed rule that would restrict the use of non-compete agreements. The proposed rule (the “Proposed Rule”) would impose what the FTC describes as a “categorical ban” on non-compete agreements. That is, if it ever ends up taking effect.
What Does the Proposed Rule Say?
Unlike some current state laws restricting non-compete clauses with low-wage workers, the Proposed Rule would prohibit any “non-compete clause,” which is defined as a contractual term between an employer and 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.” The definition notably does not include non-solicitation or confidentiality provisions, but the Proposed Rule takes a functional approach to provisions that do not fall under its definition of a “non-compete.” If a provision functionally acts as a non-compete, it would fall under the Proposed Rule’s ban.
The limit on non-competes goes beyond the traditional employer-employee relationship. Under the Proposed Rule, non-competes would be prohibited for any “worker,” defined broadly to include employees, independent contractors, and sole proprietors who provide services to a client or customer.
There are some limited exceptions. The Proposed Rule would not apply to franchisees in the context of a franchisee-franchisor relationship, although it would cover “workers” of the franchisee and franchisor. In addition, the Proposed Rule would allow non-competes for individuals in the sale-of-business context, but only if the person entering into the non-compete is a “substantial” owner, member, or partner in the entity being sold—meaning they have an ownership interest of at least 25%.
Notably, the Proposed Rule would be retroactive. It prohibits employers from entering into, attempting to enter into, or maintaining non-compete clauses with workers. Accordingly, if an employer has a non-compete clause with a current employee, the Proposed Rule would require the employer to provide notice to the employee that the non-compete is no longer enforceable. Employers would also need to notify former employees that their non-competes are no longer valid, provided the contact information for the former employee is readily available. Each notice would need to be “individualized” and provided in writing.
There would be a grace period to come into compliance. Under the current Proposed Rule, employers would have 120 days after the final rule takes effect to provide the required notices, and the FTC would provide a model notice employers can use.
What Should Employers Do?
Having said all that, let’s take a step back, and a deep breath. This is a proposed rule. The FTC is taking comments on it, and comments it will get. The final rule may look different, possibly reflecting some of the numerous alternate approaches the FTC mentions in the supplementary material accompanying the Proposed Rule. Moreover, whatever form the final rule takes will almost certainly face significant legal challenges.
In short, while the Proposed Rule is noteworthy, it is not cause for immediate alarm or action. Employers can take a wait-and-see approach, and let the rulemaking process and legal challenges play out.
In the meantime, and far more applicable to employers, are the ongoing changes to restrictive covenant laws at the state level. These state-level changes may not garner national headlines, but they remain the primary consideration for employers using restrictive covenant agreements with a multistate workforce. If nothing else, the Proposed Rule serves as a good reminder to employers to carefully review their restrictive covenant agreements for compliance with ever-changing laws. For assistance with reviewing your agreements, please contact your Much Shelist attorney.