FTC proposes wholesale ban of noncompete clauses

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On Jan. 5, the Federal Trade Commission released a Notice of Proposed Rulemaking for a new rule that would prohibit employers from including noncompete clauses in agreements with employees and independent contractors. The proposal also would ban any contractual term that is a de facto noncompete clause, such as an overbroad nondisclosure agreement or a high-dollar liquidated damages clause. The rule includes only a limited exception for the seller and buyer of a business, which is available where the restricted party is an owner, member, or partner holding at least 25 percent ownership in a business entity.

Under the proposed rule, employers would be required to rescind existing noncompete clauses and affirmatively inform employees that the clause is no longer in effect. The rule includes model language of the notice that must be provided to workers. Employers will violate Section 5 of the FTC Act if they enter into or attempt to enter into a noncompete clause with a worker, maintain a noncompete clause with a worker, or represent to a worker that the worker is subject to a noncompete clause where the employer has no good faith basis to believe the worker is subject to an enforceable noncompete clause. Employers that have allegedly violated Section 5 of the FTC Act face the possibility of an FTC investigation and enforcement action.

In support of the effort, the FTC alleges that noncompete clauses reduce workers’ wages, stifle new business and new ideas, exploit workers, and hinder economic liberty. Promoting fair competition in labor markets is a key priority for the FTC and has been the focus of the commission’s most recent efforts. According to the FTC, approximately 30 million American workers are bound by noncompete clauses. Thus, the proposed FTC rule has the potential to impact nearly one in five U.S. employees.

The proposed rule would supersede any state law that would be inconsistent with the rule, except state law that would afford a worker greater protection. Employers in California, North Dakota, and Oklahoma are already prevented from enforcing noncompete clauses under current law.

The FTC is seeking public comment on the proposed rule during a 60-day comment period, including the following topics concerning applicability of the rule: whether franchisees should be covered by the rule, whether senior executives should be exempted from the rule or instead subject to a rebuttable presumption rather than a ban, and whether low-wage and high-wage workers should be treated differently under the rule. Employers can submit comments about the proposed rule online at www.regulations.gov through March 10, 2023.

Given the sweeping implications of the rule, employers and other stakeholders are likely to launch legal challenges. The new rule would go into effect 180 days after the final rule is published. However, employers should plan for the possibility that a similar version of the proposed rule will become law. Employers should consult with employment counsel about how to pursue alternatives to noncompete clauses, including carefully drafted non-solicitation and confidentiality provisions, in order to ensure trade secrets and client relationships are protected.