Dear Clients and Friends,

We would like to bring to your attention an important development regarding non-compete clauses under United States law. This new rule (which has not yet taken effect) will have substantial ramifications on employment law in the United States.

On April 23, 2024, the Federal Trade Commission (“FTC“) put in place a new rule which generally prohibits employers from imposing non-competition restrictions on their workers (the “Rule“). This Rule provides that the practice of employers entering into non-compete agreements with their workers is an unfair method of competition and is therefore a violation of Section 5 of the FTC Act.

 

When will the Rule take effect?

The Rule is currently not yet in effect. It shall take effect 120 days after its publication in the Federal Register (the Rule has also yet to be so published). We note that it is anticipated that enforcement of the Rule may be delayed, or it perhaps may even be cancelled, due to legal challenges: At least three legal challenges, two of which were filed in Texas, claiming that the FTC lacks the authority to enact the Rule, have already been initiated, with more expected to follow.[1]

 

What is the territorial scope of the Rule?

In the United States: If and when the Rule takes effect, it will apply at the federal level, and in all US states, and shall supersede any contradictory state laws. The Rule also applies to non-US employers if the non-compete clause attempts to restrict work or the starting of a business in the U.S.

Outside of the United States: The Rule does not apply to non-competes if they restrict only work outside the U.S. or starting a business outside the U.S.

 

What is the stated purpose of the Rule?

To promote competition by banning non-compete agreements nationwide, protect the fundamental freedom of workers to change jobs, increase innovation, and foster formation of new businesses.

 

Does the Rule apply only to non-compete agreements made with employees?

No. It applies to all workers. The restrictions apply not only to employees but also to independent contractors, interns, volunteers, and others.

 

Will the Rule have a retroactive effect?

Generally, yes. Non-compete clauses in breach of the Rule will not be enforceable. The Rule sets in place a notification obligation regarding existing restrictions; employers must notify employees in writing that their non-compete covenants are no longer enforceable. The Rule includes model language that will satisfy this notice requirement.

One important exception is existing non-compete restrictions for “Senior Executives“^[2]. Such restrictions shall remain effective. However, setting up new restrictions with existing Senior Executives is prohibited. We note in this context that the possibility of entering into a non-compete agreements with (existing) Senior Executives before the Rule takes effect still exists.

 

Does the Rule Apply to all Employers?

No, because the FTC Act does not apply to all employers. Accordingly, the Rule does not apply to employers to whom the Act does not apply. These include several financial institutions, some non-profit organizations, and air carriers.[3]

 

What about non-competes made as part of transactions?

There is also an exemption for non-competes entered into in connection with the ‘bona fide’ sale of a business. A “sale-of-business” exception allows a buyer involved in a bona fide sale of business to enter into a non-compete agreement with a seller, regardless of the size of the seller’s interest in the target business.[4]

 

How can employers preserve their interests following the (future potential) implementation of the Rule?

First, they should confirm that the Rule has taken effect, and that it applies to their specific circumstances (that is, apart from the exceptions listed above).

Second, all of the below alternatives are still valid, assuming they are not non-compete clauses in disguise. The FTC does note that such clauses could fall within the ban’s reach if they are “so broad and onerous” that they have “the same functional effect as a term or condition prohibiting or penalizing a worker from seeking or accepting other work or starting a business”.

• Other restrictive covenants such as non-solicitation.
• Garden leave clauses (including garden leave with reduced salary).
• Confidentiality and intellectual property undertakings.

 

What are the sanctions for breaches of the Rule?

Use of non-compete undertakings in violation of this rule is an “unfair method of competition” and may result in fines, penalties, and other forms of injunctive relief. Once the Rule is in effect, participants can report information regarding a suspected violation of the Rule to the Bureau of Competition.

 

 

Final Notes:

We reiterate that the Rule is not yet in effect and that legal challenges have already been initiated. However, due to the significance of this matter, we recommend becoming familiar with the Rule and determining whether changes, such as those relating to existing senior executives, or in the implementation of garden leave or other restrictive covenants, should even now be made to one’s practices.

 

 

Please note that the discussion above relates to matters outside of our jurisdiction. We are providing this information so that you will be aware of it, but it does not constitute legal advice.

We will continue to keep you updated and remain ready to assist you.

If you have any questions, please contact Adv. Liat Shaked-Katz at shaked@herzoglaw.co.il.

 

Labour & Employment Law Department

Herzog Fox & Neeman

 

 

[1] Ryan LLC v. Federal Trade Commission, 3:24-cv-986 (N.D. Tex., Apr. 23, 2024); Chamber of Commerce of the United States of America v. Federal Trade Commission, 6:24-cv-00148 (E.D. Tex., Apr. 24, 2024); ATS Tree Services LLC v. Federal Trade Commission, 2:24-cv-01743 (E.D. Pa. Apr. 25, 2024).

[2] A “Senior Executive” is a worker earning more than 151,164 USD annually and who is in a “Policy-Making Position”. A “policy-making position” includes a firm’s president, chief executive officer, or the equivalent, any other officer with “policy-making authority,” and any other natural person with “policy-making authority” similar to that of an officer’s.

[3]  The Act exempts banks, savings and loan institutions, federal credit unions, common carriers, air carriers and foreign air carriers, and persons and businesses subject to the Packers and Stockyards Act.

[4]  According § 910.3 to the Rule: “The requirements of this part 910 shall not apply to a noncompete clause that is entered into by a person pursuant to a bona fide sale of a business entity, of the person’s ownership interest in a business entity, or of all or substantially all of a business entity’s operating assets.”

The reason for this exemption, according to the Comments of the FTC, is that such non-competes are not restrictive and exclusionary, or exploitative and coercive, as other non-competes banned by the Rule.