On April 23, 2024, the Federal Trade Commission announced it will be issuing a final rule that bans most post-employment non-competition agreements retroactively. Absent a court order to enjoin the rule, the ban will become effective 120 days from the date the rule is published in the Federal Register.

The final rule defines a non-compete clause as:

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 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.

If the rule survives court scrutiny, then—with certain minor exceptions, including exceptions for nonprofit organizations and other entities over which the FTC has no jurisdiction—the final rule will ban the enforcement of non-competition provisions or agreements between employers and employees, including existing non-compete provisions or agreements.

There are very limited exceptions to the ban.

One is for non-compete agreements or provisions that apply to “Senior Executives.” For “Senior Executives,” employers will be able to enforce non-compete agreements or provisions that are in place prior to the effective date of the final rule. Put another way, existing non-compete agreements or provisions for “Senior Executives” can be enforced but once the final rule becomes effective, no new non-compete agreements or provisions that regulate “Senior Executives” can be enforced or put into place.

The commission adopted this exemption because it recognized that “Senior Executives” have the ability to negotiate over the terms of non-compete provisions, and it would be unfair to employers to require them to remove contractually agreed-upon non-compete provisions retroactively.

However, though the FTC perceived the need to permit enforcement of these existing non-compete provisions, it also significantly limited the scope of the exemption with a narrow definition of who qualifies as a “Senior Executive.”

A “Senior Executive” is defined by the final rule as an employee:

• who earns at least $154,164 per year, including all non-discretionary bonuses and compensation, but excluding discretionary bonuses and medical insurance, payments for life insurance, contributions to retirement plans, and the cost of other similar fringe benefits; and
• who has “policy-making authority,” which is defined as:

final authority to make policy decisions that control significant aspects of a business entity or common enterprise and does not include authority limited to advising or exerting influence over such policy decisions or having final authority to make policy decisions for only a subsidiary of or affiliate of a common enterprise

For employees that fall within the definition of “Senior Executive,” companies will be allowed to enforce non-compete provisions or agreements entered into before the effective date of the final rule. But employers will be barred from entering into new non-compete provisions or agreements with “Senior Executives” after the effective date of the final rule.

Notably, the FTC stated that to fall within the definition of “Senior Executive,” an employee must:

• be “at the level of a president, chief executive officer or the equivalent … or in a position that has similar authority to a president or officer”; and
• have actual “policy-making authority” over the “common enterprise,” and not just a division or subsidiary

The FTC explained that, under the final rule, presidents, chief executive officers, and their equivalents are presumed to be Senior Executives. However, division heads and the heads of subsidiaries may not be “Senior Executives” if they do not have final policymaking authority over the entire “common enterprise”; i.e., the entire corporate family of companies for entities that have one or more subsidiaries or divisions.

The commission declared that its intent is to exclude from the definition of “Senior Executive” those officers who have authority only over a particular department, line of business, or subsidiary, and to make any non-compete provision or agreement applicable to such employees unenforceable:

To be considered a “common enterprise” for the purposes of defining policy-making authority and policy-making position, the Commission looks beyond legal corporate entities to whether there is a common enterprise of “integrated business entities.” This means that the various components of the common enterprise have, for example, one or more of the following characteristics: maintain officers, directors, and workers in common; operate under common control; share offices; commingle funds; and share advertising and marketing. Therefore, the definitions of policy-making authority and policy-making position include provisions whose purpose is to exclude those executives of a subsidiary or affiliate of a common enterprise from being considered senior executives.

The FTC provided the following examples:

For example, if the head of a marketing division in a manufacturing firm only makes policy decisions for the marketing division, and those decisions do not control significant aspects of the business (which would likely be decisions that impact the business outside the marketing division), that worker would not be considered a senior executive. Similarly, in the medical context, neither the head of a hospital’s surgery practice nor a physician who runs an internal medical practice that is part of a hospital system would be senior executives, assuming they are decision-makers only for their particular division. The definition is limited to the workers with sufficient pay and authority such that they are more likely to have meaningful bargaining power and actually negotiated their non-competes.

…

For example, if a business operates in several States and its operations in each State are organized as their own corporation, assuming these businesses and the parent company meet the criteria for a common enterprise, the head of each State corporation would not be a senior executive. Rather, only the senior executives of the parent company (or whichever company is making policy decisions for the common enterprise) could qualify as senior executives for purposes of this final rule, because they are the workers with the highest level of authority in the organization and most likely to have bargaining power and a bespoke, negotiated agreement. However, a worker could qualify as a senior executive even if they were an executive of one or more subsidiaries or affiliates of the common enterprise, so long as that senior executive exercised policy-making authority over the common enterprise in its entirety.

For any employee that does not fall within the final rule’s definition of “Senior Executive,” the employer will not be able to enforce any non-compete provision or agreement with respect to that employee as of the effective date of the final rule. Therefore, employers may have to perform an executive-by-executive analysis to determine those that have a sufficient final decision-making authority on behalf of the “common enterprise” that would make them fall under the definition of “Senior Executive,” and those that lack such authority.

The second exemption relates to the sale of a business. The ban on non-compete provisions and agreements does not apply to non-competes entered into by a person as part of the bona-fide sale of a business entity, of a person’s ownership interest in a business, or of all or substantially all of a business’s operating assets. It also does not apply to franchisor/franchisee contracts between companies.

Another exemption from the ban on non-competes arises out of the limits on FTC jurisdiction. The FTC Act, 15 U.S.C. § 44, excludes from the definition of a corporation any entity that is not organized to carry on a business for its own profit or that of its members. Therefore, some nonprofits may not be subject to the non-compete ban.

However, not all nonprofits will be free from the commission ban. The FTC has stated that an entity’s 501(c)(3) status does not determine whether it falls within its jurisdiction and that such an inquiry is fact-specific. The commission will apply a two-part test to decide whether a corporation is organized for profit and thus falls within the commission’s jurisdiction. As the FTC has explained,

[t]he not-for profit jurisdictional exemption under Section 4 requires both that there be an adequate nexus between an organization’s activities and its alleged public purposes and that its net proceeds be properly devoted to recognized public, rather than private, interests.

Matter of Coll. Football Ass’n, 117 FTC 971, 998 (FTC 1994). Notably, the FTC has extended its jurisdiction to 501(c)(3) nonprofits when they engage in business on behalf of for-profit members. The FTC looks to IRS precedent when it considers whether a tax-exempt nonprofit impermissibly confers private benefits, such as when it pays unreasonable compensation to founders, board members, their families, or other insiders.

The final rule also preempts state laws that conflict with it, but otherwise will not limit or affect enforcement of state laws that provide greater protection to workers.

With regard to any existing non-compete agreements or provisions, employers are not required to formally rescind them. But the FTC is requiring employers to provide notice to their staff that post-termination non-competition agreements or provisions are no longer enforceable. The FTC includes in the final rule a model notice to be used by employers:

Although the proposed rule indicates that non-solicitation and other types of agreements could also be on the chopping block, the final rule did not reach that far. Therefore, employers may continue to protect their confidential and trade secret information and their client relationships through Non-Disclosure and Non-Solicitation Agreements. Companies should be careful to craft such provisions so they do not create an overbroad provision that could be construed as an impermissible non-competition provision.

Calling the FTC ban “a blatant power grab that will undermine American businesses’ ability to remain competitive,” the US Chamber of Commerce filed a lawsuit on April 24, 2024 to challenge the FTC’s rule. We will monitor this lawsuit.

This article summarizes aspects of the law and does not constitute legal advice. For legal advice for ‎your situation, you should contact an attorney.