Non-compete clauses are an easy way to ensure that your employees can’t take your business to the competition, but are you using those non-compete clauses in a legally compliant way? Is there another restrictive covenant that your company can be using in place of a non-compete that still protects your intellectual property while limiting your risk of unenforceable, and potentially illegal, non-compete clauses? Emerging trends in non-compete law can help guide you in implementing the policies around restrictive covenants to protect your business.
Types of Restrictive Covenants
There are 3 primary types of restrictive covenants, and your company may be using one of these or a combination of all of them.
Non-compete: A contract where an employee agrees to not compete with a company for a certain period after employment ends. This prevents an employee from leaving your company to work for a direct competitor and taking your business or practices to your competitors.
Non-solicit: A contract where an employee agrees to solicit the company’s clients, employees, or other individuals with whom the employee worked. This prevents an employee from selling to your clients after they start a new job or taking other employees with them.
Non-disclosure (NDA): A contract where an employee agrees not to disclose the company’s confidential information. This prevents an employee from sharing your company’s business practices, sensitive information like finances, and intellectual property.
Additionally, restrictive covenants have limitations that impact the ways that you can apply them.
Legitimate business interests
You need to prove that your company has a legitimate business interest in using a restrictive covenant.
State law determines what qualifies as legitimate business interests, and this varies from state to state, but this can include trade secrets, customer relationships, or confidential information like business strategies or financial reports. Wanting to limit competition is not a legitimate business interest. The restrictive covenant cannot be so broad that it makes it difficult for the employee to find a new job. The burden falls on your company to prove that you do have a legitimate business interest in enforcing a restrictive covenant.
Professions and industries
Some states restrict the use of restrictive covenants by industry and profession. Low-wage employees or employees who do not have access to confidential information may not qualify for a non-compete clause depending on your state’s laws. Additionally, many states have laws that prohibit non-compete clauses for physicians and attorneys, and some states extend this prohibition to accountants, veterinarians, physical therapists, broadcasters, and other professionals.
Length of restricted period
The length of time you set for your restrictive covenants must be reasonable and the shorter that time period, the more likely it is enforceable. The length of time that is considered reasonable varies from state to state. For some states it is as little as six months, for some states up to two years may be considered reasonable.
The geographic area you set with your restrictive covenants must be reasonable to be enforceable. The area being considered reasonable is dependent on the industry and the employee’s position at your company. The more narrow this area is, the more likely it is enforceable.
Definition of competition
Employees should only be limited in doing similar work for a direct competitor of your company. Prohibiting employees from working in any capacity in your company’s industry is too broad, and likely unenforceable.
Your company needs to provide consideration for an employee to enter into a restrictive covenant. An offer of employment in most states is sufficient consideration for a non-compete or non-solicitation clause when an employee is hired. If an employee is asked to sign a restrictive covenant after joining the company, additional consideration, like a promotion or lump sum bonus, must be provided in many states.
Some states require companies to provide notice to an employee that they will be asked to sign a non-compete or non-solicitation provision. If the notice requirement is 14 days for the employee to review the non-compete clause, the employee’s start date cannot be before that 14 day period has ended.
Are your company’s restrictive covenants enforceable?
If a non-compete, non-solicitation, or non-disclosure agreement provision is too broad, it can be considered unenforceable. There are two ways in which a court may strike your unenforceable provisions.
- Blue pencil: A court may revise your provision to be enforceable, like changing the geographic area of restriction or the length of time of the restriction. The parts of the restrictive covenant that can be rewritten vary from state to state.
- Red pencil: A court may entirely strike your agreement because it is too broad or otherwise fails to comply with state laws.
If your restrictive covenants are considered unenforceable, your company may face monetary penalties for violating state laws, and you may have to pay the attorney’s fees of the former employee.
What are the current trends around non-compete law?
Non-compete laws are currently under increasing scrutiny. Earlier this year, President Biden issued an executive order encouraging the FTC to “curtail the unfair use of non-compete clauses.”
If your company is currently using a non-compete, what does this mean for you? While the FTC is not outright banning non-competes, they may begin to reign in unfair use, which is why right now is a good time to review how your company is using non-compete law.
Currently 3 states — California, Oklahoma, and North Dakota — have banned the use of non-competes. Additionally, many states have introduced laws that limit the use of non-competes within the past several years.
These limitations include:
- Income thresholds: Many states have banned non-competes for low-wage or low-skilled workers, these income levels vary from state to state.
- Notice requirements: Some states require companies to provide advance notice to an employee that they have a non-compete clause, the length of these notice periods varies from state to state.
- Consideration: Some states require additional consideration beyond an offer of employment for an employee to enter into a non-compete, like having been at the company for a certain amount of time or provided an agreed-upon amount of financial consideration.
- Penalties: State prosecutors have been aggressive in penalizing companies with fines for abusive non-competes that hurt an employee’s ability to find work. In the state of Washington, a company can be fined up to $5,000 plus attorney’s fees for every employee with a violating non-compete.
Non-compete law is changing rapidly and non-competes are becoming more difficult and risky to enforce.
There is a trend at both the federal and state level to restrict the use of non-compete agreements, especially for low-wage workers, and to limit the use of overly broad or abusive non-competes. Now is a great time to review your non-compete policy, and to ensure that you are not using a generic non-compete for all employees, especially if you have remote workers in states that you did not operate in before.
This blog has been written to be easier to understand for non-legal professionals, but the law is still complicated. If you’re worried about potential laws you’re unaware of resulting in penalties against your company, SixFifty’s new Employment Agreements Tool can help. Our new tool can help you consider all of the factors that impact non-compete provisions and other restrictive covenants like legitimate business interests, appropriate length of restriction period, limited geographic area, income threshold, prohibited professions, consideration, notice periods, and more!
For more information, you can check out the webinar below on Emerging Trends in Non-Compete Law, or request a free demo today to see what SixFifty can do for you!