Client Alert: FTC Proposes New Rule Prohibiting Non-Compete Agreements
Date: January 11, 2023
The law’s proposed text can be found here.
The sweeping provisions must now be subjected to a comment period, and will inevitably face strong opposition from business groups, as well as potential legal challenges.
The proposed rule has three central components:
- Employers are prohibited from entering into non-compete clauses with workers;
- Employers are required to take active steps to rescind existing non-compete clauses; and
- Notice requirements that would apply to both current and former employees.
The proposed rule comes after anticipated competition regulations touted by the Biden administration. The FTC's stated purposed behind the proposed rule is to promote competition and stimulate the economy. The FTC's announcement asserted that non-competes tamp down on "innovation and business dynamism" in a variety of ways, including stopping would-be entrepreneurs from starting their own competing firm and inhibiting workers who'd bring "innovative ideas" to new employers. According to the FTC, employers often use their "outsized bargaining power" to force workers to sign non-competes.
The proposed rule contemplates one exception for non-compete clauses "entered into by a person who is selling a business entity or otherwise disposing of all of the person's ownership interest in the business entity, or by a person who is selling all or substantially all of a business entity's operating assets." The exception would only apply to someone with a "substantial" ownership stake.
The FTC also seeks to outlaw employment contract terms that amount to "de facto" non-compete clauses, such as nondisclosure requirements "written so broadly that it effectively precludes the worker from working in the same field" and obligations for workers to cover training costs if they end their employment too soon, provided the bill isn't "reasonably related to the costs the employer incurred for training the worker."
According to the proposed rule, only the FTC itself could go after rule violations. Absent from the rule is any private right of action for workers.
The rulemaking is already subject to strong opposition as it enters the rulemaking comment period required before being enacted. With legal challenges and vehement pushback likely to ensue, it will be some time before the FTC’s proposed rule changes the status quo.
Over the past years and decades, non-compete agreements have been subjected to increased scrutiny through legislation disfavoring enforceability and limiting the ability of employers to enter into non-compete agreements. Courts have also increased their scrutiny of such agreements, effectively raising the bar for employers to demonstrate a legitimate business interest to justify the scope of an existing agreement. Many states and jurisdictions, including Maryland, Virginia, and the District of Columbia have recently enacted laws banning or significantly limiting the use of non-compete agreements, particularly as they affect low wage workers. The FTC’s action, in fact, follows on settlements reached by the agency with three businesses regarding broad non-competes against low wage employees, noting that the action was taken in conjunction with the agency’s authority to go after unfair competition. The rule making reflects a significant expansion beyond how the FTC has traditionally pursued this role.
Whiteford, Taylor & Preston routinely advises employers on non-compete agreements and restrictive covenants. The firm’s Labor and Employment practice will continue to monitor the FTC’s proposed rule and is available to advise as to the practical effects of this recent development.
The information contained here is not intended to provide legal advice or opinion and should not be acted upon without consulting an attorney. Counsel should not be selected based on advertising materials, and we recommend that you conduct further investigation when seeking legal representation.