The FTC Non-Compete Rule – Six Takeaways

May 8, 2024

The Federal Trade Commission has issued its final Non-compete Rule, imposing a nationwide ban on non-compete clauses in employment agreements. Unless legal challenges to the Non-compete Rule are successful, the Rule will go into effect in August of 2024. Although the Rule will nullify traditional non-compete clauses, it does not ban non-disclosure clauses or employee non-solicitation clauses. In addition, the Rule does not affect non-compete clauses entered as part of a bona fide sale of an equity interest in the employer’s entity. To prepare for implementation of the Rule, employers should carefully re-draft employment agreements to maximize protections against wrongful competition after the Rule takes effect.

Non-Compete Clause Defined

Under the Rule, a non-compete clause is broadly defined as:

  1. A term or condition of employment that prohibits a worker from, penalizes a worker for, or functions to prevent a worker from:
    1. seeking or accepting work in the United States with a different person where such work would begin after the conclusion of the employment that includes the term or condition; or
    2. operating a business in the United States after the conclusion of the employment that includes the term or condition.

By application of this definition, clauses that restrict employment with named competitors, with an entity offering same or similar services within a geographic area or prohibiting competitive work within specifically-named territories are banned.

The Rule Applies Retroactively

Except for senior executives, when effective, the new Rule will ban all non-compete clauses, regardless of when the employer and employee signed an agreement.

Exception for Senior Executives

Employment agreements with employees in a policy-making position and receiving compensation of at least $151,164 in the preceding year are exempt and can remain in place after the effective date of the Rule. However, the Rule prohibits the inclusion of non-compete clauses in any new employment agreements entered between an employer and a senior executive after the effective date of the Rule.

Non-disclosure Clauses Remain

The Rule does not ban non-disclosure clauses that prohibit a current or former employee from divulging confidential information such as customer contacts, pricing, methods and other forms of proprietary information. Accordingly, employers should carefully review and if possible, enhance non-disclosure clauses to fill the gap left by the ban on non-compete clauses.

Bona Fide Sale Exception

The Rule exempts non-compete clauses between a seller and purchaser of an equity interest in a business. Further, the FTC did not set a minimum percentage of ownership that must be transferred to invoke the exemption. However, the FTC does require that the purchase be bona fide, meaning occurring at arm’s length and with the opportunity to bargain. Under the Rule, non-competes arising from the outright sale of a business remain enforceable, assuming they are otherwise well-drafted. What is less clear is whether employee equity programs granting an employee a percentage of ownership in the employer’s business may include a non-compete clause. The FTC’s commentary suggests determining whether such transactions are considered bona fide, is highly fact specific.

Duty to Inform Employees

The Rule requires employers to provide clear and conspicuous notice to employees by the effective date of the Rule that their non-compete clause will not be, and cannot legally be, enforced.

Bottom Line

Employers with existing employment agreements containing non-compete clauses need to review their current agreements. In many cases, it may be possible to achieve similar protection through an enhanced non-disclosure provision. Care must be taken not only to ensure compliance with the Rule, but also state law. Certain employers with equity incentive plans should consider whether their program can be enhanced to couple an employee’s purchase of equity ownership with a non-compete clause.