Noncompete agreements have long been commonplace practices in many industries. These contracts prevent employees from leaving to work for a competitor and are generally designed to help employers retain trade secrets and other proprietary information. However, the Federal Trade Commission (FTC) has recently taken issue with these agreements, proposing a new rule that would put an end to noncompete agreements.
The Federal Trade Commission's proposal
On Jan. 5, 2023, the FTC issued a proposal that would effectively ban employers from using noncompete agreements. The proposed rule would prevent employers from entering into noncompete clauses with workers while also nullifying any such existing agreements. The rule would work retroactively, forcing employers to notify employees that any preexisting noncompete agreements are rescinded within 45 days of the rule's implementation.
This ban would apply to 99% of the workforce, covering workers of all kinds, including:
- Independent contractors
- Volunteers
- Interns
- Apprentices
- Paid employees
- Nonpaid employees
The definition of a noncompete agreement is notably broad in the proposed rule. The FTC defines a noncompete agreement as "a 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."
The rule goes on to note that some alternative agreements might function as de facto noncompete clauses and would therefore be banned under the new ruling. Most notably, the rule points out that a nondisclosure agreement might be considered a noncompete agreement if it's written too broadly and, thus, prohibits the worker from pursuing employment in the same field with a different company.
The FTC's proposed rule also addresses agreements to repay training costs. Some companies issue contracts that require their employees to pay for their training costs if said individual's employment terminates within a certain period. It states that these agreements will be prohibited under the new ruling if the required payment isn't reasonably related to the actual costs the employer incurred when training the worker.
The argument for an end to noncompete agreements
President Joe Biden recently tweeted, "For decades, I've fought for the notion that if your employer wants to keep you, they need to make it worth your while with good pay and benefits. Consistent with my Executive Order, today's FTC announcement to limit noncompete agreements is a huge win for workers."
An estimated one in five workers is subject to a noncompete agreement, and 38% of workers have agreed to at least one noncompete agreement in the past. The Federal Trade Commission issued a statement describing noncompete agreements as a "widespread and often exploitative practice that suppresses wages, hampers innovation, and blocks entrepreneurs from starting new businesses."
Putting an end to noncompete agreements might prove to be a boon for employees who want the freedom to start their own businesses within the industry where they're currently employed. It will also free workers to accept a position with a direct competitor when desired, creating more opportunities for career advancement.
The FTC's new regulations could:
- Increase career opportunities for around 30 million Americans
- Boost wages by nearly $300 billion a year
- Lower consumer prices in the health care sector by $150 billion annually
- Double the number of companies founded by former workers within the same industry
- Close gender and racial wage gaps by 3.6%-9.1%
Though an end to noncompete agreements might create some sticky situations for businesses that currently rely on these contracts, the move will also present new opportunities for employers. No longer will top talent get locked in by employer restrictions. This means hiring managers might gain access to a fresh slew of applicants looking for better pay, benefits, flexibility, or other perks. Companies that are willing and able to offer enticing benefits to new hires will have access to employees who might have otherwise been confined by the terms of a noncompete agreement.
The Federal Trade Commission issued a statement describing noncompete agreements as a "widespread and often exploitative practice that suppresses wages, hampers innovation, and blocks entrepreneurs from starting new businesses."
The argument against an end to noncompete agreements
Many of those who oppose the FTC's proposal are concerned that abandoning noncompete agreements will make companies' intellectual property exceedingly vulnerable. Nullifying an existing noncompete agreement could make it possible for an employee to start a competing business using their former employer's trade secrets. The detrimental impact of the FTC's ruling would likely be worse in small, emerging markets where nondisclosure agreements aren't adequate to protect the critical know-how that's just emerging. "This kind of blanket ban is going to stifle innovation," says Emily Dickens, chief of staff and head of public affairs for the Society for Human Resource Management.
An end to noncompete agreements might also hamper companies' retention. It will force employers to come up with other, more enticing, ways to keep their key employees happy within the organization.
The sole dissenting voter on the Commission, Christine S. Wilson, issued a statement highlighting further issues with the FTC's proposed rule. Wilson contends that the FTC doesn't have the competition rule-making authority or the congressional authorization to make its proposed changes.
Existing legislation on noncompete agreements
The use and scope of noncompete agreements is currently legislated at the state level. Only three states — California, North Dakota, and Oklahoma — and Washington, D.C., have banned noncompetes entirely. Thus, the FTC's proposed rule would increase the restrictions in 47 states. However, many of these states do have some restrictions on noncompete agreements. Noncompete agreements are prohibited for workers beneath a certain earnings threshold in several states, including:
- Colorado
- Illinois
- Maine
- Maryland
- New Hampshire
- Oregon
- Rhode Island
- Virginia
- Washington
Studies have shown that wages are lower in areas where noncompete agreements are easier to enforce. A growing number of states are taking note of the hazards of noncompete agreements. Colorado passed one of the most recent laws regarding these contracts. The law, which took effect on Aug. 10, 2022, states that noncompete contracts are not enforceable unless they accompany the sale of a business and are signed by employees making more than $101,250 a year.
While a third of employees nationwide report they weren't presented with a noncompete until they'd already been hired, Colorado stipulates that employers must notify new hires of any such agreement and have them review the terms before they accept a job.
The FTC's proposed ruling aims to protect employees from any such unfair practices with its broad blanket restrictions. If passed, this new rule would preempt all state rulings unless the state provides greater protection to the worker than the FTC's proposed rule.
What's next?
Attorney Mark Goldstein says, "There is at least a reasonable likelihood that the FTC will adopt this rule in some shape or form in 2023." The FTC's rule is subject to a 60-day period during which the public can submit comments on the proposal. This comment period will close on March 10, 2023. When this period ends, the FTC will move forward in an attempt to make the rule final. If the rule is finalized, it will go into effect 180 days after it's published.
Companies that have strong opinions on the FTC's proposed ruling should submit their comments within the allotted time frame. When this period is over, businesses will need to keep a close eye on the progression of this ruling to determine any additional steps they must take going forward.
More tips on how to navigate the potential end to noncompete agreements:
See how the workplace has changed over the years, and consider whether you'd like to comment in support of or against the way noncompetes influence the broader scope of the workforce and economy.
Take note of the key points employees evaluate before applying for a job and whether a noncompete would be a red flag for new hires.
Assess some of the top reasons employees leave jobs and whether you can mitigate some of these factors in your company to make noncompetes less necessary.
