By: Mary Shahverdian
On April 23, 2024, The Federal Trade Commission (“FTC) issued a Final Rule banning noncompete agreements for workers. The Final Rule defines a “noncompete” clause or agreement as “a term or condition of employment that prohibits a worker from, penalizes a worker for, or functions to prevent a worker from (1) seeking or accepting work in the United States with a different person where such work would begin after the conclusion of the employment that includes the term or condition; or (2) operating a business in the United States after the conclusion of the employment that includes the term or condition.”
After receiving more than 25,000 comments in favor of this ruling, the FTC determined noncompete agreements have a net-negative impact on business formation, market concentration, innovation, and result in higher prices for consumers. Cries that noncompete agreements were justified by business necessity have fallen on deaf ears at the FTC, who reasoned that any benefit gained from noncompete agreements cannot be outweighed by the harm they cause. The FTC advised that employers should instead protect their confidential interests through other means, such as nondisclosure agreements.
“We heard from employees who, because of noncompetes, were stuck in abusive workplaces,” said FTC Chair Lina Khan. “One person noted when an employer merged with an organization whose religious principles conflicted with their own, a noncompete kept the worker locked in place and unable to freely switch to a job that didn’t conflict with their religious practices.” These accounts, she said, “pointed to the basic reality of how robbing people of their economic liberty also robs them of all sorts of other freedoms.”
In making its Rule, the FTC determined that a noncompete agreement is an unfair method of competition, and therefore a violation of Section 5 of the Federal Trade Commission Act, 15 USC 45. Section 5(a) of the FTC Act provides that “unfair or deceptive acts or practices in or affecting commerce […] are […] declared unlawful.” 15 U.S.C. Sec. 45(a)(1).
After the Rule comes into effect later this year, employers will be barred from entering any new noncompete agreements and enforcing any preexisting agreements. Employers will be required to provide clear and conspicuous notice to each of their past employees that they will no longer be legally permitted to enforce their noncompete agreements. This notice must be provided to the employee before the Rule’s effective date by hand delivery, mail at the employee’s last known street address, email, or by text message. Employers who violate this new rule will be subject to civil penalties. The effective date for the Final Rule is 120 days after it is published in the Federal Register.
Exclusions
The FTC Act upon which the Rule relies does not apply to nonprofit corporations, which may result in the exclusion of health care centers from this Rule. However, the FTC Commissioner has clarified that the determination will not be based on the tax-exempt status, but rather, whether the corporation is organized for the profit of its members. Nonprofit organizations should be particularly careful to keep an eye on the interpretation of the Act and the resulting Rule.
The Rule carves out an exception for existing noncompete agreements between employers and their senior executives. Employers will be permitted to maintain existing noncompete agreements with those employees who make over $151,164 in annual compensation and are in a position of authority over the policies of the business.
The Rule does not apply to franchisee/franchiser relationships at this time. The Rule does not apply to noncompete agreements entered by a person pursuant to a bona fide sale of a business entity.
The Rule only applies to post-employment noncompete agreements. The Rule does not bar noncompete agreements that prohibit an employee from competing against the employer while still actively employed.
Resistance and Legal Challenges
The FTC vote was a 3-2 split along party lines. The FTC commissioners who dissented argued that the FTC was overstepping the boundaries of its power and predicted the ban would be challenged in court and eventually struck down. Shortly after the vote, the United States Chamber of Commerce held a press conference announcing that it is planning to initiate litigation to oppose the Rule, during which Daryl Joseffer, Executive Vice President, and Chief Counsel of the U.S. Chamber Litigation Center, argued that the FTC lacks authority to make a rule that is impermissibly retroactive. The Chamber maintains the longstanding position that noncompete agreements allow companies to protect trade secrets and help employees to benefit from an incentive for employers to invest in workplace training and improvement.
Additionally, The Chamber of Commerce President and CEO, Suzanne P. Clark, issued the following statement regarding the FTC’s final vote to ban employer noncompete agreements:
“The Federal Trade Commission’s decision to ban employer noncompete agreements across the economy is not only unlawful but also a blatant power grab that will undermine American businesses’ ability to remain competitive.
“Since its inception over 100 years ago, the FTC has never been granted the constitutional and statutory authority to write its own competition rules. Noncompete agreements are either upheld or dismissed under well-established state laws governing their use. Yet, today, three unelected commissioners have unilaterally decided they have the authority to declare what’s a legitimate business decision and what’s not by moving to ban noncompete agreements in all sectors of the economy.
“This decision sets a dangerous precedent for government micromanagement of business and can harm employers, workers, and our economy.
“The Chamber will sue the FTC to block this unnecessary and unlawful rule and put other agencies on notice that such overreach will not go unchecked.”
Bernstein-Burkley will continue to watch this space as the litigation between these bodies ensues. In the meantime, employers should be mindful of their existing noncompete agreements and move quickly to ensure compliance with the rules and avoid civil penalties. Employers should also seek counsel to assist with protecting legitimate business interests, confidential information, and trade secrets.
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For more information, visit www.bernsteinlaw.com or contact:
Mary Shahverdian
Associate, Bernstein-Burkley
mshahverdian@bernsteinlaw.com or 412-456-8100