Hang On, It’s Going to be a Bumpy Ride
On Tuesday the FTC followed through on a year-long promise to ban the use of noncompete provisions/clauses/agreements in employment contracts nationwide. The ban will affect most U.S.-based workers who currently have a noncompete, which is an estimated 30 million employees.
The ban is due to take effect about 120 days from Monday, April 29th 2024. This is where we would usually add ’barring legal challenges’ and would expect that cases (which we will cover in future blogs and newsletters) have already been filed challenging the ban and requesting injunctions against the rule taking effect.
To summarize so far: the rule is clear cut, when, if ever, it goes into effect is up in the air – which leaves millions of employees with noncompetes up in the air along with hundreds of thousands of employers who regularly use noncompetes in hiring for a host of reasons.
“Our posts and newsletters throughout May will cover the litigation(s), the future of noncompetes regardless of the new rule, and drafting employment contracts that avoid the noncompete pitfalls in any event.”
We’ll attempt to break it down while noting that this is the very definition of a fluid situation right now. Our posts and newsletters throughout May will cover the litigation(s), the future of noncompetes regardless of the new rule, and drafting employment contracts that avoid the noncompete pitfalls in any event.
Key Takeaways Today
The FTC’s Final Rule bans all future noncompetes starting in August, 2024 Starting in August 2024, all existing noncompetes are voided for all workers except a narrowly defined group of senior executives.
The legal challenges will significantly delay the implementation of the rule. That delay will only create more confusion and uncertainty for employees and employers alike
Here’s the FTC’s Factsheet Outline of the Rule:
- The final rule bans new noncompetes with all workers, including senior executives after the effective date.
- Specifically, the final rule provides that it is an unfair method of competition—and therefore a violation of Section 5 of the FTC Act—for employers to enter noncompetes with workers after the effective date.
- For existing noncompetes, the final rule adopts a different approach for senior executives than for other workers. For senior executives, existing noncompetes can remain in force. Existing noncompetes with workers other than senior executives are not enforceable after the effective date of the final rule.
- Fewer than 1% of workers are estimated to be senior executives under the final rule.
- Specifically, the final rule defines the term “senior executive” to refer to workers earning more than $151,164 annually who are in a “policy-making position.”
The agency vote was 3-2 to issue the rule. The majority cited “a mountain of evidence that noncompete agreements suppress wages, stifle entrepreneurship and gum up labor markets.” The minority called the rule a ‘vast overreach.’
If the rule stands, it will be illegal for employers to include the provision in employment contracts (or as a separate agreement) and will require companies with active noncompete agreements to inform workers that they are void – except for the senior executives who fall under the exception. Note, though, that when their contracts expire, so do the noncompete clauses – permanently.
A Quick Review of The Current State of Noncompete Clauses
Noncompete agreements have never been recognized in three states — California, North Dakota, and Oklahoma. Eleven states and the District of Columbia have recently passed legislation that prohibits the noncompetes for hourly wage workers and those who fall below a salary threshold (typically around $100,000/yr.).
Eighteen states currently have pending legislation along the lines of the FTC ban.
Texas recognizes noncompetes but has long established, rigid guidelines as to their use, duration, and much more. A carefully drawn noncompete that meets the Texas standards will, absent the rule going into effect, remain valid and enforceable – in Texas.
The issue for states like Texas that recognize noncompetes is that considering the current patchwork nature of the legal landscape noncompetes are difficult to enforce in an economic environment in which employees can so easily relocate to new jobs in other states.
Some General Thoughts on the New Rule
We wrote a post last January We wrote a post last January when the pending rule was first reported comparing it to the legislation enacted by Congress in the aftermath of the sinking of the Titanic. The theme was simple: blanket solutions to complex problems without regard for every variable will inevitably lead to serious unintended consequences. This should be known as the S.S. Eastland Principal.
The FTC enacted this rule because there are undeniable misuses and outright abuses of noncompete agreements across industries. Particularly for low wage earners and non-senior executives with no access to trade secrets or other proprietary information and/or unique skill sets.
In making the rule, the FTC is ignoring the undeniable need for noncompete agreements for many industries and most startups.
A significant issue: there are no studies that categorically prove that banishing noncompetes across the board will significantly boost wages. Conversely, there are no studies that categorically prove that noncompetes lead to higher wages and employers who are more likely to invest in training and in the employee individually.
For every study that found greater enforcement of noncompetes leads to an increase in job creation by start-ups, there’s another that found "they lowered wages both for workers directly covered by them and for other workers, partly by making the hiring process more costly."
This, then, leaves us with a complex issue, competing fact patterns, and millions of individually tailored agreements already in place – hardly the ideal circumstances for a blanket solution.
Moving Forward Today
While the FTC’s Noncompete ban is being challenged in two federal courts as we write this and the number is sure to climb all over the county, the chance of it going into effect over the summer seems slim.
It should, however, serve as a wake-up call to every business that feels it needs noncompete agreements to continue to be successful. Or, in the case of a startup, to get off the ground. Noncompetes are under attack across the country, agree or disagree with the philosophy behind a ban but recognize that there are inherent problems with them. Noncompetes have a bullseye on them. Other states, more it seems every day, offer ‘noncompete havens.’
Business owners need to start exploring – now, today – the many options available to achieve the same – if not better – result in much less risk of legislative interference and without the ‘bad whiff’ noncompetes generally carry with them.