FTC Issues New Rule Banning Noncompete Clauses: Stay Tuned for Legal Challenges

After a lengthy comment period on its proposed non-compete rule issued in January 2023, the Federal Trade Commission (FTC) on April 23, 2024 issued a final rule largely banning noncompete clauses that exist in employment agreements and employer policies. Although, the final rule differs in some respects from the proposed rule, the final rule if it becomes effective will result in a sea change in non-compete law in many states, including Iowa. We summarize below key points employers should know now about the final rule:

• Effective Date. The final rule will not become effective until 120 days after its publication in the Federal Register.
• “Noncompete Clause” Defined. The Rule defines Noncompete Clause as a term or condition of employment, including a policy or contractual term, that prohibits seeking or accepting work or operating a business after conclusion of employment.
• Ban. The final rule bans both current and future non-competes, unless an exception applies. It is unlawful to enter into, enforce, or represent to a worker that he or she is subject to a non-compete clause.
• “Senior Executives” Treated Differently. Unlike the proposed rule, the final rule differentiates between workers and “Senior Executives.” Similar to ordinary workers, a person cannot enter a new non-compete clause with a senior executive. However, non-compete clauses with senior executives entered into prior to the effective date can still be enforced. Senior Executives are narrowly defined as workers in a Policy-Making Position and receiving at least $151,164 in annualized compensation. “Policy-Making Position” is defined as an entity’s president, CEO or equivalent, or other officer or person with policy-making authority. The rule further defines “Policy-Making Authority” as final authority to make policy decisions impacting significant aspects of a business entity, and not simply advising or exerting influence.
• Required Notice for Existing Noncompetes. Employers must provide notice to workers under existing noncompete clauses, informing them the clause will not and cannot be legally enforced. The rule also requires particular delivery methods and suggested model language. Employers utilizing the model language are provided a safe harbor and deemed to have complied with the notice requirements.
• Exception: Bona Fide Sale of Business. The rule does not apply to person selling his or her ownership interest in a business entity or all or substantially all of a business’s operating assets.
• Exception: Existing Causes of Action. The rule also does not apply where an existing cause of action accrued prior to the rule’s effective date.
• Exception: Good Faith Enforcement. Where a party enforces or attempts to enforce a noncompete based on a good faith basis that the rule does not apply, it is not an unfair method of competition under the rule.

Equally as important should be what the rule does not cover. Employers will need to take care in determining whether they are covered by the Federal Trade Commission Act and within the ambit of the FTC. For example, banks and credit unions, as well as non-profit healthcare employers, are generally exempt from FTC regulation and would be able to keep using noncompete agreements in accordance with state law, giving them a potential advantage over others subject to the FTC’s restriction. Employers also will need to analyze whether the rule applies to particular workers.

Notably, the definition of “non-compete clause” appears much narrower than the proposed rule and does not categorically prohibit other restrictive covenants like customer non-solicitation agreements or non-disclosure agreements (“NDAs”). Employers will also need to look closely at their existing and future agreements to comply and continue protecting its confidential and proprietary business information.

Immediate legal challenges to the rule by employers and business groups are expected. Challengers will likely seek nationwide injunctions on enforcement of the rule while the courts sort out the legal challenges. Employers should keep a close eye on this issue given the likely legal challenges and legal sea change upon effect. Nyemaster’s labor and employment attorneys are keeping abreast of these issues and are here to assist employers with their questions on the final rule moving forward.