FTC bans contracts that keep workers from jumping to rival employers

IL file photo

The Federal Trade Commission on Tuesday banned noncompete agreements for most U.S. workers, a move that will affect an estimated 30 million employees bound by contracts that restrict workers from switching employers within their industry.

The agency voted 3-2 to issue the rule, with commissioners in the majority saying they saw a mountain of evidence that noncompete agreements suppress wages, stifle entrepreneurship and gum up labor markets. The new rule makes it illegal for employers to include the agreements in employment contracts and requires companies with active noncompete agreements to inform workers that they are void.

“The FTC’s final rule to ban noncompetes will ensure Americans have the freedom to pursue a new job, start a new business, or bring a new idea to market,” FTC Chair Lina M. Khan said in a statement after the vote.

The rule is set to take effect after 120 days, but business groups vowed to challenge it in court, arguing that the FTC greatly overstepped its authority and enacted a rule that will hurt companies.

U.S. Chamber of Commerce CEO Suzanne P. Clark in a statement blasted the agency’s new rule as “a blatant power grab that will undermine American businesses’ ability to remain competitive.”

“The Chamber will sue the FTC to block this unnecessary and unlawful rule and put other agencies on notice that such overreach will not go unchecked,” Clark said.

The rule, recommended by President Biden as part of a 2021 executive order, is the latest step in a major effort by the FTC to expand the boundaries of antitrust enforcement. Scholars cite a body of research that shows noncompete agreements suppress worker pay and entrepreneurship and make it more expensive for employers to hire workers bound by the covenants.

The rule states that new noncompete agreements will be banned for all workers after it takes effect. Existing noncompete agreements will no longer be enforceable, except for senior executives, who the FTC says represent less than 1 percent of workers.

President Biden cheered the move Tuesday: “Workers ought to have the right to choose who they want to work for.”

Commissioners voting for the rule Tuesday cited figures showing that 30 million U.S. workers are subject to noncompete agreements. A Labor Department study published in June 2022 estimated that 18 percent of Americans are bound by noncompete agreements, while other research suggests it could be closer to 5o percent.

Contracts containing noncompete language are used in a wide range of industries, including technology, hairstyling, medicine and even dance instruction, while imposing restrictions on both high- and low-wage earners. The FTC estimates that banning noncompete agreements could raise wages by nearly $300 billion per year.

“I think the FTC has done a real public service here by compiling all this evidence, making a really strong case for a complete ban and establishing a new gold standard for policymaking in this area,” said Sandeep Vaheesan, legal director at the Open Markets Institute, which proposed a noncompete ban to the agency in 2019. “No employee or professional should be made to sign one of these contracts.”

But attorneys representing employers argued that the rule is far too sweeping and may be disruptive. The rule will see challenges in court, predicted Jenner & Block lawyer Debbie Berman.

“The uncertainty created by these rules and the future litigation creates a risky landscape for businesses as they try to protect their most valuable trade secrets and confidential information,” said Berman, co-chair of her firm’s practice for business litigation, trade secrets and restrictive covenants, in an email. “I think we’ll see rapid movement by businesses to implement alternatives to noncompetes—such as non-solicitations agreements and deferred compensation plans—because they won’t take a gamble on protecting their proprietary information.”

The two dissenting commissioners in Tuesday’s vote, Melissa Holyoak and Andrew Ferguson, questioned the FTC’s authority to issue the noncompete rule. The FTC lacks “the power to nullify tens of millions of existing contracts,” Ferguson said.

“The administrative state cannot legislate because Congress declines to do so,” he said.

The regulatory authority of federal agencies has been subject to intense legal scrutiny in recent years, with the Supreme Court’s use of the “major questions doctrine.” The high court has held that when a federal agency seeks to resolve an issue of “vast economic and political significance,” it must be supported by clear congressional authorization. The court first used the term in a 2022 case in which it cut back the Environmental Protection Agency’s ability to reduce carbon output in power plants.

Cary Coglianese, a law professor at the University of Pennsylvania, said he would not be surprised if a lower court struck down the new FTC rule under the doctrine. The case could reach the Supreme Court, he said.

“We have a Supreme Court that has a majority that’s looking skeptically at the exercise of governing power by administrative agencies like the Federal Trade Commission,” Coglianese said.

Noncompete agreements have been prohibited in three states—California, North Dakota and Oklahoma —for more than a century. In recent years, 11 states and D.C. have passed laws that prohibit the agreements for hourly wage workers or those who fall below a salary threshold.

But the patchwork nature of the legal landscape has made bans difficult to enforce. Some legal experts said that companies include noncompete clauses in employee contracts regardless of state prohibitions, knowing workers and competitors will be wary of litigation.

Evan Starr, an assistant professor of management and organization at the University of Maryland, whose research into the economic harms of noncompetes was heavily cited in the FTC’s new rule, said it would have a particularly strong impact on workers unable to finance litigation or fight what he characterized as “frivolous” noncompete agreements.

“The new rule will probably go a ways toward addressing some of those issues,” he said.

Dave Wagner, a dental equipment technician in Washington state, which prohibits noncompete agreements for workers making less than around $116,000, told The Washington Post last year that a noncompete agreement he signed left him jobless in an industry that had employed him for decades.

Learning of the decision Tuesday, Wagner said he was amazed and happy for all workers who have found themselves in a situation similar to his own.

“It was almost like you were in prison—and they owned you,” Wagner said by phone. “I like the fact they don’t own you anymore.”