THE SSP FIRM BLOG
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FTC’s Final Rule Banning Non-Compete Agreements
Thursday, April 25, 2024
Summary of FTC’s Final Rule Banning Non-Compete Agreements
As many of you are aware, this past Tuesday, April 23, 2024, the Federal Trade Commission approved, by a 3-2 vote, a final rule (Non-Compete Clause Rule) banning non-compete agreements for nearly all workers in the United States with very limited exceptions. The final rule provides that it is an unfair method of competition for an employer to enter into non-compete agreements with workers on or after the final rule’s effective date.
The final rule is scheduled to go into effect 120 days after it is published in the Federal Register. However, as further discussed below, the rule is already facing legal challenges which could delay its publication and effective date and/ or ultimately completely prevent the rules enforcement. While we cannot predict what any court will decide with respect to the rule and the constitutionality of the FTC’s actions, our initial suggestion is to hold off on any significant actions, and continue to closely monitor both the status of the rule and any updates from SSP regarding court actions.
What Agreements are Covered?
The rule covers nearly all non-compete agreements throughout the United States. The final 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 (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.”
This broad prohibition covers agreements with any “worker,” including employees, independent contractors, externs, interns, volunteers, apprentices, or a sole proprietors who provide services to persons. While the rule includes natural persons who work for a franchisee or franchisor, it does not include a franchisee in the context of a franchisee-franchisor relationship.
Does the rule include other types of restrictive covenants, such as non-solicits and confidentiality agreements?
While the “functions to prevent” prong of the non-compete definition does not categorically prohibit other types of restrictive employment agreements (confidentiality or non-disclosure agreements, non-solicitation agreements, training repayment agreements, etc.), as noted above, the “non-compete clause” includes a “term or condition” of employment that “prohibits,” “penalizes” or “functions to prevent a worker from” seeking or accepting work after the end of their employment. The FTC states that whether any contractual provision constitutes a “non-compete clause” is a “fact-specific inquiry.” If the rule goes into effect, employers can anticipate significant legal challenges and litigation regarding whether other restrictive covenants such as a non-solicitation agreement constitute a “non-compete clause” under the definition.
What is the impact on Existing Non-Compete Agreements?
For pre-existing non-compete agreements, the final rule adopts a different approach for “Senior Executives” than for other workers.
Under the final rule, pre-existing non-competes with “Senior Executives” will remain in force after the rule goes into effect. However, after the rule’s effective date, employers will no longer be allowed to enter into or attempt to enforce any new non-compete agreements with workers, even those who qualify as “Senior Executives.”
Existing non-competes for all workers who do not qualify as “Senior Executives” will no longer be enforceable after the rule’s effective date.
Finally, employers are required to provide “clear and conspicuous notice” by the rule’s effective date to all workers whose non-compete agreements are deemed unenforceable by this rule. The notice must state “that the worker’s non-compete clause will not be, and cannot legally be, enforced against the worker.” This notice must be in written form and delivered by hand, mail, email, or text message; the final rule provides model language for this notice, including that the FTC’s new rule does not affect any other terms or conditions of employment. As such, the notice can clarify that the worker’s other obligations, such as confidentiality, non-disclosure, and non-solicitation, will remain in effect.
Who Qualifies as a Senior Executive?
As noted above, pre-existing non-compete agreements with “Senior Executives” are not invalided by the final rule. Employers can expect that whether employees meet this definition will be hotly debated and litigated if this rule goes into effect. The final rule defines “Senior Executive” as a worker (a) who is in a policy-making position and (b) who earned more than $151,164 in total actual or annualized compensation in the preceding year (through salary, bonuses, and/or commissions, but excluding fringe benefits, retirement contributions, and medical/life insurance premium payments). The rule is not entirely clear on how it handles Senior Executives newly hired in 2024. However, the rule defines “preceding year” as either the most recent 52-week year, the most recent calendar year, the most recent fiscal year, or the most recent anniversary of hire year.
The final rule defines “policy-making position” as a business entity’s president, chief executive officer or equivalent, or any other person with “policy-making authority.” “Policy-making authority” means having the final authority to make policy decisions controlling “significant aspects of a business entity or a common enterprise.” It does not include positions whose authority is limited to “advising or exerting influence over such policy decisions” or positions that have “final authority to make policy decisions for only a subsidiary of or affiliate of a common enterprise.”
Are there any exceptions?
There are three main exceptions to note.
First, the final rule does not apply to non-compete agreements entered into by a person pursuant to a bona fide sale of a business entity as long as the sale involves disposition of the person’s ownership interest in the business entity, or of all or substantially all of a business entity’s operating assets.
Second, the final rule does not apply where a cause of action related to a non-compete agreement accrued prior to the effective date of the rule, i.e., the rule does not make already pending litigation seeking to enforce a non-compete unlawful.
Lastly, the final rule includes a “good faith” exception providing that it is not an “unfair method of competition” to enforce or attempt to enforce a non-compete agreement or to make representations about a non-compete agreement where a person has a good faith basis to believe that the final rule is not applicable.
What about State Non-Compete Laws?
The final rule “shall supersede” all state laws, regulations, orders and interpretations of them that is not consistent with the rule’s requirements. However, states are still free to implement requirements and restrictions to non-compete clauses that provide greater protections than those provided by the final rule. Employers should therefore continue to review applicable state non-compete laws to ensure compliance.
Current Legal Challenges
As anticipated, the FTC final rule was immediately met with multiple legal challenges seeking to strike down the rule. A Dallas-based global tax services and software provider filed the first lawsuit challenging the rule. Then, on April 24, 2024, the U.S. Chamber of Commerce also filed a lawsuit in a U.S. District Court in Texas seeking to strike down the final rule, arguing that the FTC does not have the authority under the FTC Act to make rules regulating unfair methods of competition, and that that the rule must be vacated because the FTC acted without clear congressional authorization.
There will likely be additional legal challenges to the rule, which could result in a delay in its implementation.
Next Steps
Over the next several days and weeks, the status of the FTC’s final rule is likely to remain up in the air as it continues to face legal challenges. SSP will continue to monitor the situation over the coming weeks and will continue to update this information as new developments arise. In the meantime, employers may wish to prepare for these uncertainties by reviewing existing non-compete agreements and other restrictive covenants but defer implementing changes or providing notice until these legal challenges are resolved.
If you have any questions regarding the FTC Non-Compete Clause Rule, please feel free to contact our office.
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