ANALYSIS: Noncompetes Pose Evolving Legal Risks as Feds Move In

Employers are on notice: Federal agencies are coming for noncompetes.

But while it’s crucial to keep an eye on federal developments, employers shouldn’t lose sight of the myriad of emerging and existing state laws and court precedent, which can lead to litigation, monetary penalties, and even criminal repercussions if overlooked.

On the federal level, an FTC rule on noncompete agreements is winding its way through the regulatory process, with an expected agency vote in April 2024. This is further complicated by the National Labor Relations Board general counsel’s recent announcement that many noncompetes violate Section 7 of the National Labor Relations Act, which can impact both unionized and nonunionized workforces.

So far this year, at least four additional states are proposing or have passed laws restricting noncompete agreements, which will increasingly complicate the national patchwork of laws, and would apply regardless of FTC or NLRB actions.

How employers navigate the state-level legal landscape while adapting to and preparing for federal movements will determine whether they are compliant with the relevant laws and are ready for the future—or whether they unnecessarily walk into legal pitfalls.

Noncompetes Face Federal, State Scrutiny

It’s critical for employers to review each change made under both federal and state law to determine how it will impact them.

For example, the NLRA memorandum doesn’t apply to supervisors—defined under the NLRA as individuals who use “independent judgment” while engaging in activities such as hiring, laying off, or disciplining employees—thus providing employers some breathing room.

It’s not clear if the NLRB will apply the memorandum as written, and if it does, what influence courts may have on the memo’s enforcement. But regardless, some states go further than the memorandum. Four states ban almost all noncompete agreements, including California, which protects supervisory employees who aren’t covered by the memo.

Currently, state laws and court precedent that regulate noncompete agreements often have restrictions including:

• wage and salary restrictions that often bar noncompetes for lower income individuals but allow them for individuals over a certain income threshold.
• geographic and temporal limitations that regulate the region to which an agreement can apply and its duration.
• specificity requirements that limit what kind of competition can be barred by a noncompete.
• employee position or duty considerations, such as those barring noncompetes based on employee exemption status under the Fair Labor Standards Act.

When it comes to regulating noncompetes, the law or regulation—whether state or federal—with stricter restrictions will normally apply. For now, that’s state law in most situations. But if the pending FTC rule becomes final, or the NLRB memorandum gets enforced by the courts, the scenario could change.

Moving Parts Complicate Compliance

Employers using noncompetes have much to think about. For example, if an employer is in a state that bans the agreements for workers earning below $75,000 and they require all employees earning above $75,000 to sign a noncompete agreement, there are still more considerations.

From a labor perspective, if the NLRB decides to strictly apply the general counsel memorandum and the courts enforce it, employers requiring employees to sign such an agreement could face an unfair labor practice (ULP) charge if the employee is covered by the NLRA, which covers most private sector non-supervisor workers.

Beyond NLRB considerations, the FTC rule—if adopted as-is—could wipe out such an agreement.

But if the FTC rule is scaled back or if an employer (certain nonprofits, for example) isn’t subject to the rule, the employer will still have to look to the relevant state laws and court opinions as they craft or reconsider their contracts. This is because state laws that aren’t inconsistent with the FTC rule and provide additional worker protection will remain enforceable.

In a scenario where the FTC rule is scaled back to ban noncompetes only for individuals making less than $50,000 a year, for example, an employer in a state with a ban on these agreements for those making less than $75,000 annually wouldn’t be able to impose such a clause on a worker making $60,000.

Next Steps for Employers

Employers must consider state law, the NLRB memorandum, and the pending FTC rule to inform their noncompete agreement-related strategies.

The first and most obvious place to start is to review current (and pending) laws and legislation on the matter and ensure that practices and policies are compliant.

But the preparation doesn’t end there.

While the NLRB memorandum hasn’t yet been widely applied by the NLRB or enforced by courts, the first enforcement action was filed in early June, just weeks after the memo was released.

Another consideration for employers is whether it’s worth keeping certain noncompete agreements in place, particularly if the agreements subject them to an increased risk of a ULP charge, which could cost employers money and time even if it ends up being unsuccessful.

Employers may also want to consider alternatives to noncompetes, which can protect the interests they instituted noncompetes for in the first place. Nonsolicitation agreements or narrowly tailored confidentiality agreements are options.

Even though the FTC’s final rule could look much different—or not go into effect at all—it’s critical that employers are ready for whatever the outcome once the FTC votes on it next year.

Bloomberg Law subscribers can find related content in our Practical Guidance: Restrictive Covenant Agreements page and our Labor & Employment Practice Center.

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