Five Things You Should Know About the FTC’s Ban on Noncompetes

The Federal Trade Commission (FTC) rattled the business world last month when it issued a rule that would nullify most noncompete agreements. Within 24 hours, the FTC was sued by two different parties that argued the agency had exceeded its authority when it issued the rule. In the meantime, employers who use noncompetes are left wondering what to do.

Here are five things employers need to consider as they decide how to proceed in these uncharted waters:

1. Noncompete agreements have not been voided by the rule (yet).

The rule is not effective until September 4, 2024.

2. This rule may never become effective.

A federal court may very well enjoin the rule while litigation is pending. Further, if recent Supreme Court precedent is any indicator, it’s possible the high court will ultimately find the rule to be an unconstitutional exercise of power. Everything is in flux until the court battle works itself out.

3. Even if this rule stands, there are exceptions to it.

The exceptions include the following:

• Noncompete agreements entered as part of the bona fide sale of a business are not covered by the rule.
• Noncompete agreements between nonprofits and their employees are not covered by the rule. The FTC Act only gives the agency authority over an entity “organized to carry on business for its own profit or for that of its members.” This exception is significant, because it extends to nonprofit health systems, which often have noncompete clauses in contracts with practitioners and senior executives. Nonprofits should proceed with caution, however, because the FTC announced that receiving tax-exempt status from the IRS is not enough to avoid the rule’s coverage. The FTC uses a two-part test to determine whether the entity is organized for profit and falls under the agency’s authority. It evaluates (1) whether the entity “is organized for and actually engaged in business for only charitable purposes” and (2) whether “either the corporation or its members derive a profit.” There’s a lot of ambiguity in that, and you should lean on counsel to determine if your organization falls within the exemption.
• Some industries are statutorily excluded from the agency’s jurisdiction. This includes banks, people and businesses covered by the Packers & Stockyards Act, federal credit unions, savings and loan institutions, air carriers, and common carriers.

4. Even if the rule stands, there are exceptions with an expiration date.

Keeping in mind that the effective date of the rule is September 4, 2024, here are some exceptions to the rule that expire then.

• If you have an employee who has breached the term of a noncompete agreement, you can bring a claim against that employee if the breach happens before the effective date of the rule.
• “Senior executives” who signed noncompete agreements prior to the effective date of the rule can be held to the terms of the agreement. There is a two-part test to determine whether someone is a senior executive: (1) the employee must meet the income threshold of $151,164; and (2) the person must have “policy-making” authority. It’s intended to be a narrow exception, as evidenced by the fact that the FTC estimates that less than 1% of workers qualify as senior executives.

5. There are alternative ways to try to ensure the protections of noncompetes, but they must be carefully crafted.

Some employers may be wondering if, in lieu of noncompetes, they can legally achieve the same purposes with nondisclosure agreements, training repayment agreements, nonsolicitation agreements, no-hire agreements, or no-business agreements. The answer is maybe. The FTC cited each of these agreements as potentially problematic. They will still be considered “functional noncompetes” if they “prevent a worker from seeking or accepting other work or starting a business after their employment ends.” With that in mind, employers are advised to consult with counsel before using alternative agreements to fill in the gap left by noncompetes.

It’s anyone’s guess what the timeline is for the FTC rule’s implementation—or if it ever will be implemented. In the meantime, employers should lean heavily on counsel as they navigate the brave new world created by the FTC.