The Federal Trade Commission voted Tuesday to finalize its rule banning employers from using noncompete clauses in almost all circumstances. The Chamber of Commerce has already filed a lawsuit in federal court to overturn the rule.
Under the FTC's final rule, existing noncompete agreements would no longer be enforceable for the vast majority of employees after the rule’s effective date—120 days after publication in the Federal Register.
“Noncompete clauses keep wages low, suppress new ideas and rob the American economy of dynamism, including from the more than 8,500 new startups that would be created a year once noncompetes are banned,” the commission’s chair, Lina Khan, said in a statement.
“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,” Khan added.
The agency decided to eliminate a provision in the proposed rule that would have required employers to legally modify existing noncompetes by formally rescinding them. Until recently, the validity of noncompete agreements had largely been determined by state laws and courts, many of which were inclined to side with employees.
Instead, broker-dealers and RIAs are required to provide notice to workers with an existing noncompete that such agreements would not be enforced against them in the future, the FTC said in a statement.
Existing noncompetes for senior executives can remain in force, but employers are prohibited from entering into new ones with senior executives. The final rule defines senior executives as employees who earn more than $151,164 annually and who are in policy-making positions. That figure would cover the majority of professionals in the wealth management profession.
Another question is what effect the FTC rule would have on RIA firms and brokerages that have been acquired. Many acquisitions in the RIA space have been structured around a complicated, intricate web of noncompete and non-solicitation agreements.
Brian Hamburger, an attorney and founder of MarketCounsel, said he thinks legal challenges to the rule are likely to be successful on the grounds that the FTC cannot make law, only create rules to enforce laws.
As for hamstringing M&A deals and valuations, that's even less of a threat, because even under the rule sales of businesses are excluded from the ban on noncompetes. "This is really a rule that only impacts employees in terms of post-employment agreements," Hamburger added.
The FTC, in his view, has exceeded its rule-making authority. "There will be a bunch of lawyers making a good deal of money challenging the rule in the next few months. But at the end of the day, I don't think it will stand. The FTC doesn't have the authority to write a new law. They can only enact rule-making to support new laws. So this is something that the legislature will need to take up if they choose. It's pretty clear the FTC is overstepping its authority," Hamburger said.
Gail Bernstein, general counsel of the Investment Adviser Association, said today that while the IAA supports the ability of employees to continue to work in their field after leaving a job, “the FTC’s final rule is too restrictive and may have unintended negative consequences for investment advisors and their clients.”
Because advisors are regulated entities, they are fiduciaries to their clients, Bernstein explained. “As fiduciaries, they must be able to enforce reasonable restrictions on former employees that are necessary for them to meet their regulatory obligations and protect the interests of their clients,” she added.
While broker-dealers have used noncompete agreements for decades, in recent years advisory firms have begun to use the legal contracts to stop advisors who move from RIA to RIA or launch their own firm from bringing clients with them, according to Sharron Ash, chief litigation counsel for Hamburger Law, at a past MarketCounsel Summit conference.
As RIA mergers and acquisitions continue unabated, noncompete-style restrictions have also become standard in M&A documents, Ash said.
Firms have also been aggressive in bringing legal claims against reps and advisors who have allegedly induced clients to follow them to their new firms. For instance, E*Trade attempted to sue broker Julius Agbonbhase in federal court in California in 2019 after approximately 42 clients transferred $61 million to his new firm, Morgan Stanley. But U.S. Magistrate Judge Susan van Keulen rejected E*Trade’s petition for a preliminary injunction on the grounds that California provides broad protection for “open competition and employer mobility.”
Firms will no longer have the protection of a noncompete clause when advisors jump ship and take clients with them.
The FTC said that instead of using noncompetes “to lock in workers, employers that wish to retain employees can compete on the merits for the worker’s labor services by improving wages and working conditions.”