FTC Proposes to Ban Non-Competes

The FTC claims its latest effort to promote competition will increase the wages of America’s workers by “nearly $300 billion per year,” but what will this effort do to employers and the sellers of businesses?

The subject of the FTC push is a proposed rule that would ban the use of non-compete clauses except where they are imposed, with limitations, on the sellers of a business. The FTC seeks public comment through March 6 on its January 5, 2023, proposed rule. The rule was “encouraged” by President Biden’s July 2021 Executive Order promoting competition. In it, he encouraged the FTC to use its authority under the Federal Trade Commission Act to curtail what he called the unfair use of non-competition clauses and other agreements that may “unfairly limit” worker mobility.

From the Executive Order, the FTC extrapolated that the freedom to change jobs is a core liberty, apparently assuming all non-competes are unfair. In order to curtail the restrictions imposed on workers by non-compete clauses, the proposed rule would make it illegal for an employee of any size to enter, or attempt to enter, into a non-compete with a worker, whether an employee or independent contractor; maintain an existing non-compete; or represent to the worker that the worker is bound by a non-compete. While the rule is intended to cover a natural person, it reaches independent contractors, externs, interns, and sole proprietors who provide services to clients and customers.

A non-compete used in connection with the sale of a business can only bind substantial owners of the business, defined as those who own at least 25 percent of the seller. This should result in a reduction in value, for why should a buyer pay any sort of premium knowing that some or all of the seller’s former owners can compete with the buyer?

The goal of the proposed rule is to prevent use of agreements that would prohibit workers from seeking or accepting employment with a person operating a business following termination of employment. Some examples of the proposed prohibitions were included in the proposed rule but leave open the questions of whether restrictions on soliciting clients of the former employer would prohibit new employment. Likewise, it’s not clear what the effect of trade secret protection, either under a state uniform act or federal law might have; would these restrictions on use and disclosure be considered a restriction that rises to the level of a non-compete.

One of the stated reasons for this effort is to allow former employees to form competing businesses. Recognizing that non-competes are sometimes abused by employers, there needs to be some balance in order to allow an employer to feel comfortable about investing in training, business development, and technology and exposing its employees to the results of these efforts. Maryland, D.C., and Virginia deal with this by applying compensation floors, below which a non-compete is not enforceable. It is necessary for the FTC to do something similar because there do exist good and valid reasons for an employer to use these agreements, although they should not be de rigueur across an employer’s employee population.

No doubt, there will be challenges should this rule become law. One of those challenges might question whether the executive branch even has the power under the Act to make such a law as this would appear to be a congressional function. Employers and others are encouraged to submit to the FTC their comments on this proposed rule. It is Matter Number P201200.

If you have questions about the proposed rule, please contact Jim Astrachan at jastrachan@gdldlaw.com.