Why The FTC’s Proposed Rule Banning Non-Competes Is Good For Workers

The power of the non-compete clause has been waning over the past few years. More and more states have been limiting or banning its use and even President Biden campaigned on eliminating or reducing such restrictive employment pacts.

In accordance with Biden’s executive order, the Federal Trade Commission (FTC) has issued a proposed rule that would ban the use of non-compete agreements. Let’s take a look at that rule and how it will help workers.

What Is a Non-Compete Agreement?

A non-compete agreement is a type of restrictive covenant that limits a worker’s ability to work in a particular job or profession. These limitations will usually only apply to a particular geographical area and for a particular period of time. These employment contracts typically come into play when a worker leaves their current position and the non-compete limits where they can work.

Non-competes started as a way to protect employers from workers unfairly taking advantage of them. For example, a company might hire a new worker and spend several months training them and explaining the ins and outs of the business. The last thing the company wants is for the new worker to quit after their training ends, then use their new knowledge to set up shop across the street or go work for a competitor.

The problem is that some companies haven’t been using non-compete agreements for these reasons. Instead, many employers have used them to unreasonably control their workers and/or take advantage of them. This allows employers to keep wages low and force their competitors to work harder to find new hires. The FTC’s proposed rule aims to prevent this from happening.

What the FTC’s Proposed Rule Does for Workers

As far as proposed rules go, this one is fairly straightforward, as it would essentially stop employers from using non-compete agreements with their workers. But there are a few interesting aspects of this proposed rule that are worth noting.

First, besides banning the use of the non-compete, the proposed rule also bans employers from “represent[ing] to a worker that the worker is subject to a non-compete clause where the employer has no good faith basis to believe the worker is subject to an enforceable non-compete clause.”

In other words, employers can’t threaten their workers by claiming they’ll enforce a non-compete that doesn’t exist or is unenforceable. This is important because even in states where non-competes aren’t allowed, many employers will still include one in the worker’s employment contract. The presence of even an unenforceable non-compete can still have its desired effect, as workers don’t want to take the risk of getting sued.

Second, if this rule goes into effect, employers must inform current and former workers subject to a non-compete that their non-compete agreements are no longer valid.

Third, the rule doesn’t just apply to employees, but also to unpaid workers and independent contractors. It would not apply to franchisee-franchisor employment relationships, though.

Fourth, other contractual provisions could be unenforceable under this rule, even if they don’t technically count as non-competes. These employment clauses or provisions could still be banned if they have the same effect as a non-compete. A good example of something that’s not a non-compete, but could still be outlawed by the proposed rule, is a TRAP, or Training Repayment Agreement Provision.

Finally, this proposed rule doesn’t apply to non-competes relating to sales of businesses and in situations where a state or local law provides greater rights and protections to workers.

Why the FTC Has Proposed This New Rule

There are several states that already severely limit the use of non-compete agreements, so why is the FTC trying to ban their outright use? One reason is because arbitration clauses and collective action waivers can make it economically unfeasible for many workers to take legal action when subject to an unlawful non-compete.

Another reason is that employment contracts usually have choice of law provisions, which dictate which state’s laws apply to an employment dispute arising out of the employment contract. Imagine an employer and worker are from State A, which bans non-competes. But the employment contract containing a non-compete clause has a choice of law provision that applies the laws from State B, which permits non-compete agreements.

FTC’s Legal Authority for Banning Non-Competes

Section 5 of the Federal Trade Commission Act (FTCA) gives the FTC the authority to stop most individuals and companies from “using unfair methods of competition in or affecting commerce and unfair or deceptive acts or practices in or affecting commerce.”

This is a fairly broad mandate that arguably includes passing a rule that bans non-competes. Despite this interpretation, there’s nothing in the FTCA that explicitly restricts the use of non-compete agreements. This isn’t a flaw in the FTCA, as Congress will often pass open-ended laws, then leave it up to a federal agency to figure out the details as to how the law works in practice.

Without getting too deep into how administrative law works, the basic concept to understand is that the Administrative Procedure Act (APA) outlines how executive agencies promulgate rules and regulations based on laws passed by Congress.

The problem arises when the agency exceeds its authority and issues a rule that goes beyond what Congress allows. To deal with these situations, courts have historically applied something known as “Chevron deference.” This legal concept says that the courts will accept an agency’s interpretation of the statute passed by Congress, unless that interpretation is arbitrary, capricious or clearly goes against the statute.

Thanks to the recent U.S. Supreme Court case, West Virginia v. Environmental Protection Agency, at least part of the Chevron deference standard has been replaced with the “major questions doctrine.” This is a doctrine that says an agency may not create a rule or regulation that has a major social, political and/or economic impact unless Congress explicitly grants an agency the authority to do so.

Banning the use of practically all non-compete agreements would have a major effect on the economy and workforce. And because the FTCA doesn’t specifically discuss the use of non-competes, it’s not hard to imagine a conservative U.S. Supreme Court deciding that under the major questions doctrine, the FTC has exceeded its legal authority to ban non-competes.

Will this actually happen? No one knows, but legal challenges to the FTC’s proposed rule are likely. When these lawsuits against the FTC get filed, the major questions doctrine is probably going to be one of the arguments presented by opponents of the new rule.

Other Questions About the Proposed Rule

The first big question is whether this proposed rule will survive legal challenges. Again, it’s hard to say, but if it does go into effect, it could take a while. This is because the proposed rule is subject to public review and comment for a few months and there’s also the 180-day delay until it goes into effect after the final rule is released. What’s likely is that should this proposed rule be challenged in court, a federal judge will put a hold on the rule going into effect until the litigation is over.

Another question is if there will be additional exceptions to this proposed rule. For example, it already doesn’t apply to franchisees and franchisors, but perhaps an exception may apply to workers who make above a certain amount, such as $150,000. This exception might apply to allow non-competes to be used for executive and highly-skilled positions where the workers have more bargaining power with their employers.

Lastly, there’s the issue of what employers can use to legitimately protect themselves from workers who try to take advantage of them. Remember, there can be legitimate reasons for non-compete clauses. Just because they’re now sometimes used unfairly, doesn’t mean they still can’t be reasonably used in certain situations. But this might require the tweaking of current laws to help find suitable substitutes, like confidentiality agreements and trade secret laws.

Bottom Line

The FTC’s proposed rule to ban non-compete agreements is a major step in leveling the playing field for workers. It should also have a significant impact on improving worker wages, yet make it easier for employers to fill open positions. How this proposed rule will do when challenged in court remains to be seen.