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What are noncompete clauses in contracts? Why has the U.S. Federal Trade Commission (FTC) proposed a ban on noncompete clauses?
The FTC recently proposed banning noncompete clauses, which restrict former employees and contractors from launching or working with rival companies. The clauses aim to protect businesses’ sensitive information.
Keep reading to learn why the FTC wants to ban noncompete clauses in contracts and if they’ll succeed.
What Are Noncompete Clauses?
Some 30 million U.S. workers—one in five—sign noncompete clauses in a contract when they start a job, which limits their future job options and may cost them money if and when they leave the company. Noncompetes prohibit employees and contractors from launching or working with a competing company, typically within a geographic radius and timeframe, which can be several years.
However, this longstanding employer requirement may soon end. The U.S. Federal Trade Commission (FTC) recently proposed banning noncompete clauses in contracts, saying they limit innovation, suppress wages, and violate workers’ rights. The proposed ban provides one exception: allowing noncompetes between people buying and selling companies.
In this article, we’ll examine the evolution of noncompete clauses in contracts, their pros and cons, and their possible outlook.
The Origins and Intentions of Noncompetes
Experts say the use of noncompete clauses in contracts dates back to 1414 when an English apprentice agreed not to practice his new trade in the same town as his master tradesman for six months, however, a judge struck down the agreement.
In the early 1800s, noncompetes became regulated in the U.S. at the state level and, for a long time, they were largely reserved for executives, who were likely to know confidential information that could harm the company if shared with a competitor. However, in recent decades, their use has spread.
What Led to the Proposed Ban?
As noncompete clauses became more common, opposition to them grew.
In 2007, Oregon transformed its noncompete law in workers’ favor. The action set off a ripple effect, with dozens of states reviewing and revising their noncompete laws in the years that followed.
Then federal lawmakers got involved.
- 2016: The White House produces two reports concluding that employers overused and abused noncompete clauses in contracts.
- 2018: Democratic senators introduce the Workforce Mobility Act, banning noncompetes for nearly all workers. Democratic representatives introduce a companion House bill. Neither chamber acts on the bills.
- 2019: Republican Senator Marco Rubio introduces a bill banning noncompete clauses in contracts for most workers, while Democratic and Republican senators reintroduce the Workforce Mobility Act. Neither bill passes.
- 2020: In January, the FTC begins studying the pros and cons of regulating noncompetes. In July, Democratic senators nudge the FTC to act. In December, President Biden makes banning noncompetes part of his platform.
- 2021: In an executive order focused on boosting economic competition, President Biden “encourage[s]” the FTC to regulate noncompetes.
The FTC’s Argument Against Noncompetes
When the FTC announced the proposed ban earlier this month, it argued that noncompete clauses in contracts hurt workers’ rights, wages, and innovation.
First, noncompetes force workers to make a Sophie’s choice that limits their individual liberties. According to the FTC, if employees bound by noncompetes want to leave their job, they have to move, accept a hefty commute, or take a (possibly entry-level) job outside of their industry. Particularly among low-wage workers, these options aren’t feasible—so they stay at their jobs.
Second, according to the proposal, noncompetes keep wages low—even for workers who don’t sign the agreements. Since employees bound by noncompetes are essentially stuck at their jobs, their managers have little reason to raise their pay or offer competitive benefits. Additionally, as long as those jobs are locked up, other workers have fewer job prospects and become stuck at their jobs, with the same effect. The FTC estimates that its proposed ban could raise wages nearly $300 billion.
Finally, noncompetes limit innovation by hampering workers’ ability to develop their expertise and contribute to their field. They also restrict the formation of startups that could serve as testing grounds for new ideas. As evidence, some experts say that Silicon Valley’s innovation boom was only possible because California law deems noncompetes unenforceable.
How Likely Is the Ban?
The FTC’s proposed ban on noncompete clauses in contracts is currently in a 60-day period for public comment, after which it could become an official regulation. Some opponents argue that the FTC doesn’t have the authority to regulate anticompetitive practices.
If the ban goes into effect, experts suggest that businesses can still protect sensitive information through nondisclosure and nonsolicitation clauses.
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