FTC Issues Proposed Rule Banning All Non-Compete Agreements

Newsletter
Labor and Employment
Updated March 8, 2023: The public comment period has been revised and will now close on April 19, 2023.

On January 5, 2023, the Federal Trade Commission (FTC) proposed a new rule that would ban the use of non-compete agreements between employers and their workers and require businesses to rescind existing non-compete contracts. This proposed rule delivers on President Biden’s July 2021 executive order directing the FTC to ban or limit “non-compete agreements and other clauses and agreements that may unfairly limit worker mobility.”

Importantly, this FTC action is a proposed rule. It must first proceed through the administrative rulemaking process before it can be issued as a final rule and thus become a federal regulation. If the rule is finalized as currently drafted, it is guaranteed to draw legal challenges from the business community, as it would test the boundaries of the FTC’s rulemaking authority.

This client alert will explore what has been proposed, and how employers can protect their goodwill and confidential information if the FTC’s proposal rule were to become final. Notably, several states already prohibit most non-compete clauses, while many other states have significantly limited their use, particularly among lower and mid-wage workers. Businesses with employees in these states already have experience with this type of government restriction on their ability to contract with their employees.

Scope of the Proposed Rule

The FTC posits that non-compete restrictions are a “widespread and often exploitative practice that suppresses wages, hampers innovation, and blocks entrepreneurs from starting new businesses.” The putative authority for FTC’s effort to ban non-competes flows from Section 5 of the Federal Trade Commission Act, which bans unfair methods of competition. With this new proposal, the FTC seeks to impose a blanket ban that does not allow for nuance or balancing of distinct needs and policy goals, such as protecting certain classes of workers like low wage workers or those with access to confidential or proprietary information.

The proposed rule defines a non-compete clause as any “contractual term between an employer and a worker that prevents the worker from seeking or accepting employment with a person, or operating a business, after the conclusion of the worker’s employment with the employer.” This is a broad definition, and includes, in addition to an obvious restriction banning employment, a non-disclosure (i.e., confidentiality) agreement that is written so broadly that it effectively precludes the worker from working in the same field after the conclusion of the worker’s employment with the employer. The proposed rule also would prohibit an employer from requiring an employee to pay back the company for any training they received if the worker’s employment terminates within a specified time period.

The proposed rule would also require employers to rescind all existing non-compete restrictions, and it would apply both to employees and independent contractors. The proposed rule would generally not apply to other types of employment restrictions, such as non-disclosure agreements, unless it were written so broad in scope as to function as a noncompete, as noted above.

The FTC has signaled that it means to use its authority to limit non-compete agreements. Indeed, in a notice published the day before the proposed rule, the FTC announced that it used its Section 5 authority to ban three companies from imposing non-competes on their workers.

How Do Employers Protect Themselves Without Non-Competes?

Many states, including California, Colorado, Illinois, and Washington, already ban or otherwise heavily restrict non-competes, with few narrow exceptions. Employers in those states have found creative solutions to nevertheless protect their businesses, and these solutions will serve as a roadmap for employers should the proposed rule go into effect.

For example, employers in states where non-competes are banned or heavily restricted have focused on confidentiality agreements to protect their information.  

In terms of specific policies, employers have taken steps to prevent and track the transfer of confidential information off of company devices and networks. For example, employers have:

  • required the use of secure systems to transmit confidential information;
  • restricted or prohibited access to confidential information;
  • restricted or prohibited the use of personal email or cloud-based file-transfer sites on company devices (e.g., Gmail, Google Drive, Dropbox);
  • restricted or prohibited the use of removable storage devices on company devices (e.g., thumb drives, USB, external hard drives); and
  • utilized software to track attempts at transferring documents via off-system email, cloud storage, or external storage devices.

Employers have also enhanced their on-boarding and exit interview processes to specifically bring related company policies and confidentiality obligations to the employee’s attention. For departing employees, in particular, the best practice is to obtain written acknowledgment of these obligations and to account for all company devices assigned to the departing employee. Often times, forensic specialists can quickly identify any mass data transfers and attempted cover-ups. 

What is Next?

As noted, this move by the FTC comes amid a recent wave of state-law activity that significantly limits the use of non-competes. Many of these state laws ban the use of non-compete clauses for low and mid-wage workers. The FTC proposal is obviously much broader in seeking to impose a blanket ban on non-compete provisions.

The public is invited to comment on the proposed rule, and will have until March 20, 2023 to do so. Once the rule is published, comments may be submitted here.

As noted above, if this FTC rule is finalized as currently drafted, legal challenges are certain. Those legal challenges would likely be resolved by the U.S. Supreme Court, which has recently limited executive branch authority under the “major questions” doctrine. This doctrine requires that Congress must speak clearly when empowering agencies to regulate issues of vast significance.

The Supreme Court recently signaled its stance against aggressive agency action. In 2022, the Supreme Court invoked the major questions doctrine to strike down OSHA’s vaccinate-or-test rule. It also relied on the doctrine to invalidate the EPA’s Clean Power Plan. It remains to be seen whether an FTC rule banning all non-compete restrictions would fare any better.

For additional information and questions about how these potential changes may affect your business, please contact your Quarles & Brady attorney or:

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