In furtherance of its ongoing attempt to push its jurisdiction beyond the region of antitrust law to include labor and employment regulation, the Federal Trade Commission (FTC) has banned most types of postemployment non-compete agreements for employees and independent contractors, effective Sept. 4. That’s assuming that the move isn’t blocked from going into effect by a court because of several lawsuits challenging the rule’s legality.
The legal concept of prohibiting employers from requiring their employees to agree to broad non-compete agreements is of relatively recent vintage. But non-compete agreements became such a trend that a 2021 study found they involved an estimated 18% of the workforce, even including such low-wage workers as janitors.
In the last several years 25 states have chosen to impose restrictions on such agreements, and California, Minnesota, North Dakota and Oklahoma have banned them almost completely, but this is the first time that a federal agency has adopted such an approach—and a regulatory body that until President Biden took office had not concerned itself with labor and employment issues.
Critics lay the blame for what they see as an unsupported diversion from the commission’s mission with Chairman Lina M. Khan, a former academic who has been anything but quiet about her goal to have the FTC join the Biden administration’s other agencies in working closely together to promote the interests of organized labor and in active support of the unions’ policy agenda.
For example, last year the FTC joined the Employment Opportunity Commission, Consumer Financial Protection Bureau and Department of Justice’s Civil Rights Division to announce they would work together to ensure artificial intelligence does not violate individual rights and regulatory compliance regarding civil rights, equal employment opportunity, fair competition and consumer protection.
Although the commission is statutorily defined as an independent body, the President’s role in promoting this policy was made clear when he singled out the FTC in an executive order issued early in his administration, directing it to take more aggressive action.
Khan has headed the FTC since 2021, and during that time the commission has expanded its view of what counts as anticompetitive behavior that falls within its purview. “We need to take a holistic approach to identifying harms, recognizing that antitrust and consumer protection violations harm workers and independent businesses as well as consumers,” she declared in a position paper issued at the outset of her leadership.
When the non-compete rule was proposed in January of last year, Khan was not shy about describing the non-compete agreement concept as nothing less than an unregenerate evil. “Non-competes block workers from freely switching jobs, depriving them of higher wages and better working conditions, and depriving businesses of a talent pool that they need to build and expand. By ending this practice, the FTC’s proposed rule would promote greater dynamism, innovation and healthy competition.”
She felt so strongly about this issue that the FTC began enforcing its ban on non-competes for being anticompetitive behavior even before the rulemaking was proposed last year by entering into consent decrees with three companies over their deployment of such agreements.
When the final rule was announced at the end of April, it came under immediate legal challenge, including a lawsuit in Texas seeking to block it that was brought by the U.S. Chamber of Commerce, joined by other employer groups. “The challenges are likely to be successful,” pronounced attorneys for the law firm of Loeb & Loeb. “At the very least, they will delay, if not entirely invalidate, the final rule.”
The Chamber told the court, “According to the commission, it has the authority to take this momentous step, which retroactively invalidates 30 million employment contracts and preempts the regulatory regimes of at least 46 states.”
Alternatives and an Exception
Khan bases her legal justification for the FTC engaging in such a broad ranging rulemaking in the commission’s enabling legislation, where Congress granted it the authority to make rules regarding procedural matters. However, the Chamber charges that this distorts the meaning of the law out of all measure and violates the legislative intent of Congress. The Chamber asserts that “no provision of the FTC Act empowers the Commission to issue substantive unfair-competition rules.”
In the view of the Chamber and other legal critics of Khan’s actions, the commission is expected to make policy on more of a case-by-case basis rather than with broad rulemaking proceedings, and that is how the FTC has functioned since it was founded in 1914.
The new rule broadly defines a non-compete clause as a condition of employment prohibiting an employee from seeking or accepting work with a different employer or operating a similar business after concluding employment. The rule also applies to non-competes imposed by contract or workplace policy, whether written and oral.
It applies as well to nearly all kinds of employees and contractors, the Loeb & Loeb attorneys point out. It defines “worker” as a person who works or who previously worked for the employer, regardless of whether they were paid or unpaid, without regard to the worker’s title or status under any other state or federal laws. As a result, the rule covers non-competes entered into with employees, independent contractors, interns, volunteers and any other kinds of workers.
Legal observers say it is important for employers to realize that the FTC ban does not impact non-disclosure agreements (NDAs) that restrict employees’ ability to share trade secrets and other confidential company information when they leave their jobs.
The new rule also does not cover non-compete agreements entered into by business owners who choose to sell their operation to other owners, where non-compete agreements are not unusual.
The FTC ban will become retroactive once it goes into effect on Sept. 4—with a single exception that employers should be aware of because they may be able to take advantage of it sooner. This retroactive effect does not begin to apply until after the effective date in regard to non-compete agreements entered into previously with highly compensated senior executives who earn more than $151,164 a year and who serve in a “policy-making position” in their firm.
This is a person generally defined as someone who serves in a C-suite position, such as a president, chief executive officer and chief financial officer, as well as division heads and anyone else over the salary threshold who is involved in making policy for an organization.
“Employers have about four months to enter into enforceable non-compete clauses with senior executives to protect their businesses. Once the new rule goes into effect, it will be too late to do so,” according to Nicole Proesch, an attorney with the law firm of Dickinson Bradshaw Fowler & Hagen.
In the meantime, she recommends that employers locate and inventory all restrictive covenants. Non-compete clauses, as they are broadly defined by the FTC’s rule, can be hidden in all types of agreements, and often the agreements are not titled “Non-Compete Agreement.” They can be found in employment agreements, independent contractor agreements, non-solicitation agreements, confidentiality agreements or NDAs (non-disclosure agreements), separation and severance agreements, training repayment agreements, executive benefit plans and agreements, forfeiture clauses, merger and acquisition documents, and many other types of legal documents.
The point is that non-compete clauses, as they are broadly defined by the FTC’s rule, can be hidden in all types of agreements not titled “Non-Compete Agreement,” she warns. Even if a court enjoins the FTC order from going into effect, Proesch urges employers to locate and inventory all such restrictive covenants to be on the safe side.
“Include all non-compete clauses for both current and former workers in the inventory, even if the worker may fall into an exception,” Proesch says. Maintain copies of the agreements and consult with legal counsel where there is a question as to whether they would qualify as a “non-compete” under this rule. Make sure to consult with counsel about possible alternatives to “non-competes” to protect your organization in the future.
