On April 23rd of this year, the Federal Trade Commission (FTC) issued a final rule banning non-compete agreements throughout the nation. In 2020, Washington state enacted its own prohibitions on non-compete agreements (with a pending update set to enact later this year). How do the two rules (from Washington and the FTC) line up and what are the applicable exemptions to the general rule that bans non-compete agreements?
Washington Rule (contained in RCW 49.62)
Today in Washington state, non-compete covenants are not enforceable unless: (1) the employee makes over ~$120k a year (for 2024); and (2) the terms of the non-compete are in writing and disclosed prior to employee’s acceptance of employment OR the employer provided independent compensation if entered into during the term of employment. Additionally, the employer must agree to compensate the employee his or her base salary if the employee is laid off for the term of the non-compete (with adjustment based on employee’s subsequent employment compensation). Further, non-compete agreements over 18 months in duration post-employment are presumptively unreasonable and unenforceable. The Washington rule specifically excludes from its coverage any non-solicitation or non-disclosure agreements.
FTC Rule (contained in 16 CFR Part 910)
The FTC rule appears to provide even broader protections for employees than does the Washington law. It becomes effective 120 days after the date of publication in the federal register (scheduled to be published on May 7, 2024) and makes all existing non-compete agreements unenforceable with an exception for non-compete agreements for Senior Executives. A Senior Executive is an employee that earns more than $151,164 annually (a higher threshold than Washington’s law) and who is in a policy-making position. A “policy-making position” is reserved for those who “exercise the highest levels of authority in an organization….” Further a policy-making position means a “business or entity’s president, chief executive officer or the equivalent, any other officer of a business entity who has policy-making authority, or any other natural person who has policy-making authority for the business entity similar to an officer with policy-making authority.”Importantly, the FTC estimates that only about .75% of workers qualify for this designation. Title alone is insufficient to place an employee in a policy-making position. So, not only does the FTC rule require a higher earning level to enforce a non-compete, it also requires that the employee hold a policy-making position that the FTC has determined will not apply to over 99% of workers.
But, the FTC rule goes even further in its definition of a non-compete. It includes in the definition of “non-compete” any term or condition of employment that (1) prohibits or (2) penalizes a worker from competing. But, more broadly, it includes any term or condition of employment that “functions to prevent” a worker from competing. It’s the last clause that might pull in other types of agreements that are not technically classified as a non-compete agreement from the face of the clause or document. For example, although a non-solicitation agreement may not prohibit or penalize competition, it might be included in the definition of a non-compete if it “functions to prevent” competition. The FTC has provided: “the term ‘functions to prevent’ clarifies that, if an employer adopts a term or condition that is so broad or onerous that it has the same functional effect as a term or condition prohibiting or penalizing a worker from seeking or accepting other work or starting a business after their employment ends, such a term is a non-compete clause…” and would be prohibited by the rule.
Employers should also note that the new FTC rule requires affirmative action by the employer to provide notice to employees that the employee’s “non-compete clause will not be, and cannot legally be, enforced against the worker.”
Taken Together
Between Washington’s current law, the updates scheduled for later this year, and the new FTC rule, there is a lot of nuance to parse when putting together any restrictive employment clauses. Non-disclosure agreements and non-solicitation agreements appear to still be effective but for the fear that the restrictions might meet the “function to prevent” clause under the FTC’s definition. More than ever before, it is vital for business owners to consult with their attorneys to put in place the agreements necessary to protect the business but also to look to other employee benefits or pay structures to further incentive employees to stay with the company.
**********
The opinions voiced in this material are for general information only and not intended to provide specific advice or recommendations for any individual or entity. This information is not intended to be a substitute for specific individualized tax or legal advice. We suggest that you discuss your specific situation with a qualified tax or legal advisor.
