The Basics

Non-compete agreements bar a company’s workers from taking jobs with competitors or starting new competing businesses after they leave their employment with the company.

The Rule that would ban most non-compete agreements nationwide was published on May 7, 2024, and goes into effect on September 4, 2024. The Rule impacts all employers under the FTC’s jurisdiction, which includes the vast majority of businesses. However, this does not include certain banks, certain common carriers, some non-profit organizations, and several other categories of entities. The Rule prohibits employers under the FTC’s jurisdiction from entering into new non-compete agreements with employees and independent contractors.

The Rule also retroactively bans enforcement of all existing non-compete agreements, except for those with “senior executives.” A “senior executive” is an employee who earned at least $151,164 in annual compensation and is in a “policy-making position.” Regarding the compensation floor, this includes workers earning $151,164 when annualized if they only worked during a portion of the preceding year. The Rule defines a policy-making position as “a business entity’s president, chief executive officer or the equivalent, any other officer of a business entity who has policy-making authority . . ..” This is intended to be a limited subset of executives who have final authority to make policy decisions that control significant aspects of the business or common enterprise (not just a subsidiary, affiliate, or business division).

Business Sellers and Purchasers

Non-compete agreements between sellers and purchasers of businesses are exempt from the Rule. This includes not only sales of business entities themselves, but also sales of an individual’s ownership interest in the business entity or all or substantially all of the business entity’s operating assets. However, the FTC made clear that these non-compete clauses are still subject to state law and federal antitrust law.

Employer Notification

The Rule requires employers to notify workers and former workers whose non-competes are no longer enforceable that their non-compete agreements are no longer in effect and will not be enforced. The FTC provided model language employers can use for this notification; however this language is very pro-worker and fails to reaffirm other restrictions that might still be enforceable. As such, consultation with legal counsel to develop a form of notice to use is recommended. The notification must be sent by the date that the Rule goes into effect.

Alternatives to Non-Competes

The Rule explains that there are alternative mechanisms to protect valuable investments other than non-compete agreements, including trade secret law, patent law, non-disclosure agreements and invention assignment agreements. For businesses to protect their investments in their employees and/or independent contractors, the FTC argues fixed duration contracts and “competing on the merits to retain workers by providing better pay and working conditions” are sufficient methods to retain employees.

Effect on Other Types of Agreements

The Rule defines a non-compete clause as “[a] term or condition of employment that prohibits a worker from, penalizes a worker for, or functions to prevent a worker from” seeking or accepting work with a different employer or operating a business after leaving a company. It is unclear how courts will interpret this broad definition. It is possible this could invalidate other types of agreements such as non-disclosure agreements, non-solicitation clauses, and training repayment provisions if they are written so broadly as to be deemed to prohibit, penalize or prevent a worker from accepting work with a different employer or operating a business. Properly and narrowly drafted agreements of this sort should continue to be permissible. Additionally, the FTC indicated that “garden leave” non-compete agreements—noncompete agreements when an employee remains employed during a period of administrative leave—may still be enforceable.

Looming Legal Challenges

Multiple legal challenges have already been filed against the FTC to stop the Rule from going into effect. Tax service firm Ryan, LLC filed suit in the U.S. District Court for the Northern District of Texas. The U.S. Chamber of Commerce, along with other business groups, filed another lawsuit in the U.S. District Court for the Eastern District of Texas. The latter lawsuit was recently stayed because of the “first to file” doctrine, which means that a second lawsuit substantially overlapping with a prior lawsuit should be stayed, transferred, or dismissed to avoid duplication and piecemeal resolution of issues requiring a uniform result. In staying the U.S. Chamber of Commerce lawsuit, the court cited the virtually identical legal theories brought in each case.

In Ryan’s lawsuit, Ryan argued that these sweeping regulations violate the Constitution’s Major Questions Doctrine, which bars federal agencies from resolving questions of significant economic and political importance without clear statutory authorization. This doctrine was strengthened recently by the U.S. Supreme Court’s 2022 decision in West Virginia v. EPA. Ryan also argued the FTC acted “arbitrarily and capriciously” in drafting such a broad rule.

Recommendations

While it is quite possible that one or more of the legal challenges will result in the Rule not going into effect as scheduled on September 4, 2024, employers should be prepared to comply with the Rule if and when it becomes effective. Among other things, employers should:

• Inventory all outstanding noncompete agreements applicable to current and former workers that remain in effect.
• Ensure they have current contact information for all such workers so that they are prepared to timely send the required notification of unenforceability if it looks like the Rule, in fact, will go into effect.
• Determine which workers may qualify as “senior executives” and review their noncompete agreements.
• Review confidentiality, non-solicitation, training and bonus repayment, forfeiture for competition provisions, and other agreements to ensure they are both sufficiently protective of the employers’ interests but not written so broadly as to potentially be deemed unenforceable noncompetes under the Rule.
• Tighten up information security to limit access to sensitive information to workers who truly have a need to know to perform their duties, and ensure that upon separation of employment, all access is cut off and devices and data are returned.

If you have questions about how this impacts your business, contact one of Montgomery Purdue’s business or employment attorneys.