Proposed Federal Non-Compete Legislation Could Have Unintended Consequences

Last week, Florida Senator Marco Rubio introduced the “Freedom to Compete Act” (the “Act”) proposing to amend the Fair Labor Standards Act (FLSA) of 1938 to ban non-competes for most non-exempt workers. The Act is broadly drafted to void any agreement that restricts “any work for another employer,” “any work in a specified geographical area,” and “any work for another employer that is similar” to the employee’s prior work. While it purports to void only non-compete agreements, the bill’s use of the sweeping language “any work” could be interpreted to ban not only non-compete agreements, but other post-employment restrictive covenants such as customer and employee non-solicitation agreements. Further, the Act (if passed) would purportedly apply retroactively to agreements entered into before its enactment.

But amending the FLSA to ban non-competes for most non-exempt workers have unintended consequences that we wrote about recently in Law360 in conjunction with the Massachusetts non-compete “reform” legislation passed last year that included a similar ban tied to the FLSA:

The FLSA distinguishes “outside” sales employees, who are exempt, from “inside” sales employees, who are not. As the name suggests, the key distinction is that an outside sales employee is regularly engaged in sales away from the employer’s place of business, such as at the customer’s location. Sales made by mail, telephone, or over the internet generally are not considered “outside.” The distinction under the FLSA between inside and outside sales was intended to reflect that employers might have difficulty tracking the hours worked by sales employees who spend their time visiting customers. But that distinction is meaningless in the context of non-competes. Employers typically require sales employees, regardless of whether they are engaged in inside or outside sales, to agree to a non-compete in order to protect customer goodwill and other legitimate business interests. By using the FLSA exemptions, the Act would require employers to create an artificial split between inside and outside sales employees. Employers can and should consider customer non-solicitation provisions for inside sales employees in lieu of a non-compete provision.

Moreover, tying the ban to who is non-exempt under the FLSA could also lead to side show litigation over whether an employee was misclassified as exempt. An employer seeking to enforce a non-compete agreement against a former employee could face counterclaims that the employee should have been classified as non-exempt. Even if the claim were ultimately without merit, litigating an employee’s exempt status could be fact-intensive, time-consuming, and a distraction to the non-compete dispute, thereby undermining the employer’s efforts at obtaining injunctive relief. And of course, the counterclaim could be successful. Inexperienced or unsophisticated counsel may walk their clients right into a trap that can lead to awards of multiple damages and attorneys’ fees under the FLSA and a voiding of their non-compete agreements.

Finally, a note about the purported retroactive application of the Act to existing agreements entered into before its enactment. Leaving aside that this may very well constitute an unconstitutional taking in violation of the Fifth Amendment, more practically, what can employers do with regard to the consideration provided to the non-exempt employee for agreeing to sign the non-compete? Will that have to be returned? Can an employer demand that it be? Moreover, Congress has authority to regulate interstate commerce, and while that power has been found to be broad, many non-competes are truly local in that the geographic restriction is a relatively small, local area. This is why non-compete law has historically been a matter of state rather than federal law.

It is unlikely that Senator Rubio has considered these potential unintended consequences, but they are nonetheless important, both for constituencies who have an interest in whether the Act, as currently drafted, passes, and for employers who will be subject to it if it does. We will continue to monitor this bill and report back with any developments.