On April 23, 2024, the Federal Trade Commission (“FTC”) issued a groundbreaking rule (the “Rule”) banning noncompete clauses in employment contracts. The FTC has stated that this action is intended to empower American workers by providing them the freedom to explore new career opportunities, launch new businesses and foster innovation.
A noncompete agreement is a contractual provision between a worker and an employer that restricts the worker from seeking or accepting employment with a competitor or starting a competing business after termination of the worker’s employment. Under current law, noncompetes are governed by state law, and the legal landscape varies widely among the states. While some states broadly prohibit noncompete agreements, other states generally allow and enforce them, with varying standards, conditions and exceptions.
The Rule would preempt all inconsistent state laws and create a federal standard for noncompete agreements. Under the Rule, employers would be prohibited from creating new noncompete agreements and would be required to rescind existing agreements. Employers who have entered noncompete agreements with workers will be further required to provide them with “clear and conspicuous” notice by the effective date that the existing noncompete agreement will not be, and cannot legally be, enforced against them.
While the Rule takes a broad approach, it does provide for several exemptions. First, it allows existing noncompete agreements with senior executives to remain in place, though no new such agreements may be implemented after the effective date. “Senior executives” for this purpose are defined as workers in policy-making positions who earn over $151,164 annually. In addition, the Rule would not apply to noncompete agreements between businesses, to agreements that restrict activity solely outside of the United States, or to agreements involving certain tax-exempt organizations that do not carry on business for profit.
The Rule will also preserve the validity of other types of restrictive employment agreements, such as confidentiality agreements and nonsolicitation agreements. However, if these agreements contain provisions that overly restrict a worker from seeking or accepting work, effectively functioning as a noncompete agreement, they will also be prohibited under the Rule.
The FTC envisions a transformative impact on the American economy through implementation of the Rule. Projections indicate that the Rule will facilitate the creation of 8,500 new businesses each year and boost workers’ earnings by an average of $524 per year. The Rule is further projected to lower health care costs by up to $194 billion over the ensuing decade. Furthermore, the removal of employment restrictions is expected to spur a surge in innovation, resulting in an increase of 17,000 to 29,000 additional patents each year for the next decade.
Employers should proactively commence preparations, as the Rule will become effective 120 days following its publication in the Federal Register. However, significant legal challenges to the Rule are widely expected, which could delay or even prevent its implementation. Employers are well-advised to review their existing noncompete agreements with experienced legal counsel to develop strategies for addressing this changing regulatory landscape.
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