Move to ban non-compete clauses from US employment contracts

The Federal Trade Commission (FTC) is consulting on a proposed new rule (216-page / 2.1MB PDF) that would declare so-called non-compete clauses as “an unfair method of competition”. One in five US workers – 30 million people – are estimated to be subject to such clauses.

“The proposed rule would, among other things, provide that it is an unfair method of competition for an employer to enter into or attempt to enter into a non-compete clause with a worker; to maintain with a worker a non-compete clause; or, under certain circumstances, to represent to a worker that the worker is subject to a non-compete clause,” the FTC said.

The regulator said it wants competition policy to align with “the current economic evidence about the consequences of non-compete clauses”. Economists at the FTC have estimated that the proliferation of non-compete clauses in the US dampens US workers’ collective income by between $250 billion and $296bn per year.

“In the Commission’s view, the existing legal frameworks governing non-compete clauses – formed decades ago, without the benefit of this evidence – allow serious anticompetitive harm to labor, product, and service markets to go unchecked,” it said.

It is envisaged that the proposed new rule would apply broadly to contracts affecting a range of different categories of workers, including employees, independent contractors, interns, volunteers and apprentices.

A limited exemption from the proposed ban on non-compete clauses has been drafted by the FTC and would apply to agreements between the seller and buyer of a business. The FTC said the exception would only be available where the party restricted by the non-compete clause is an owner, member or partner holding at least a 25% ownership interest in a business entity.

The use of other types of restrictive employment covenants, such as non-disclosure agreements, will continue to be lawful in the US, although the FTC said such covenants would be caught by the proposed new ban where they function like non-compete clauses.

The FTC’s action follows an executive order by US president Joe Biden in 2021 which encouraged the regulator to consider developing rules to “curtail the unfair use of non-compete clauses”, along with “other clauses or agreements that may unfairly limit worker mobility”.

This move by the FTC takes place amidst an ongoing review into the use of non-compete clauses in the UK. Between December 2020 and February 2021, the UK government consulted on the use and possible reform of non-compete clauses, with a view to promoting innovation, competition and economic recovery following both the Covid-19 pandemic and Brexit. The consultation document mooted a wide range of potential reform options, including: mandatory compensation; a ban on non-compete clauses; as well as other, still-to-be-defined, reforms short of banning non-compete clauses. The results of this consultation are still awaited.

Employment law expert Ed Goodwyn of Pinsent Masons said: “In the UK, there was much excitement regarding the government’s consultation. In similar fashion to the US FTC, the UK government considered that restrictive covenants stifled competition and supress innovation and growth. The consultation closed on 26 February 2021 and the government is still analysing the feedback.”

“Concern was expressed that any new law re-drawing the boundaries as to what is and what is enforceable would create significant litigation risk when the current UK law was relatively clear having been established through decades of case law precedent. However, views were taken on whether a continental European-style covenant should replace the current structure in the UK.  In the UK, if a covenant seeks to protect the employer’s legitimate business interest and does so reasonably, it will be enforceable – the employer need not pay for the benefit. The continental European style covenant would require the employer to pay the employee for the benefit of the covenant,” he said.