Non-Competes, Non-Solicitations, and the Corporate Transparency Act
Written by: Robby Dube and Daniel Cragg, Attorneys, Eckland & Blando
Factors, and the companies that support them, operate in a labyrinth of regulations specific to factoring and commercial finance broadly. It can be easy to miss regulatory developments that apply generally to all businesses. Recently, the Federal Trade Commission and National Labor Relations Board have taken significant steps that seismically affect factor’s ability to keep their rates and other trade secrets protected from competitors: banning non-competes and targeting non-solicitations and non-disparagement clauses. Further, a massive new regulatory regime was imposed on businesses without most being aware.
Non-competes are a critical component of any factoring operation, ensuring that employees who have knowledge of a factor’s competitive rates and operations does not leave and immediately begin undercutting their former employer. While non-competes were always vulnerable if they were too broad or harsh, it was generally understood that they were legal and enforceable (especially in Texas where many factors are based). On April 23, 2024, that changed.
The FTC voted and approved its Non-Compete Clause Rule (the “Non-Compete Ban”), ruling that is an unfair method of competition—and therefore a violation of section 5 of the Federal Trade Commission Act—for employers to enter into non-compete clauses with workers on or after September 4, 2024. 16 Code of Federal Regulations § 910.
The FTC has defined a non-compete to mean a term or condition of employment that prohibits a worker from, penalizes a worker for, or functions to prevent a worker from: (1) seeking or accepting work in the United States with a different person where such work would begin after the conclusion of the employment that includes the term or condition; or (2) operating a business in the United States after the conclusion of the employment that includes the term or condition. 16 C.F.R. § 910.1(1). Not only does the rule ban the non-compete, it also forces employers to inform its employees that any existing non-competes are no longer enforceable.
Importantly, there are exceptions. The Non-Compete Ban does not apply to bona fide sales of business, an important tool given the frequency of mergers and buy-outs in this industry. 16 C.F.R. § 910.3(a). It also does not apply to “senior executives,” defined as workers earning more than $151,164 who are in a “policy-making position” although, of course, that term is undefined. 16 C.F.R. § 910.1(2). Given the FTC’s current attitude towards businesses, this should be expected to be interpreted narrowly to exclude most workers (the FTC estimates 0.75% of workers are exempt). Think C-Suite, not account managers or business lead generators.
Unsurprisingly, there are legal challenges to this massive change in employment law by the FTC. And, unsurprisingly, courts have split. In ATS Tree Services, LLC v. FTC, Civ. No. 24-1743 (E.D. Pa. July 23, 2024), the Court denied a preliminary injunction, ruling that the Non-Compete Ban is likely legal. Conversely, in Ryan LLC v. FTC, 3:24-cv-00986 (N.D. Tex. July 3, 2024) granted a preliminary injunction, holding that the Non-Compete Ban is likely illegal. Assuming the FTC maintains the rule after the 2024 election, it is likely the United States Supreme Court will have the final say on the Non-Compete Ban’s legality. In the meantime, factors must either comply with the rule or sue the FTC to halt it.
Across the street in Washington D.C., the National Labor Relations Board (the “NLRB”) has been waging a quiet, but unmistakable, war against employers, targeting non-solicitation, non-compete, and non-disparagement clauses, as well as other employment contract clauses and work rules. The NLRB enforces the National Labor Relations Act (“NLRA”) which is supposed to be geared towards protecting collective bargaining rights. Under the current NLRB, that has changed.
On February 21, 2023, the NLRB issued its McLaren Macomb decision, holding that a broad non-disparagement provision in a severance agreement violated the NLRA because, among other things, it might prevent an ex-employee from participating in a future, hypothetical NLRB investigation or other litigation. Mclaren Macomb, 372 NLRB No. 58 (2023). In a likely coordinated move, the NLRB General Counsel then immediately sought to extend this decision and the FTC then adopted a new, strict work rule standard in a case called Stericycle, Inc. & Teamsters Loc. 628, 372 NLRB No. 113 (2023).
Under the Stericycle standard, if an employer can reasonably interpret an employer’s rule to prohibit activity protected by the NLRA, the rule is assumed to be illegal. Moreover, the work rule is viewed from the perspective of an employee that is economically dependent on the employer, not a neutral, objective third party. An employer can only overcome this assumption and save the work rule by proving that the rule advances a legitimate and substantial business interest, and that the employer is unable to advance that interest with a more narrowly tailored rule. And, echoing a common theme, the NLRB did not define what a “legitimate and substantial business interest” means.
What this means is that any attempt to enforce a non-solicitation, non-compete (if the Non-Compete Ban is struck down) or non-disparagements are all now subject to potential NLRB intervention. If the language is written “too broadly,” the NLRB can interpret it as interfering with collective bargaining activity and strike it down. While there are no fines associated with this, losing the non-solicitation, non-compete, and non-disparagement clauses can be especially harmful to a factor’s business. We are seeing businesses move to change these clauses to specifically carve out NLRA activities, but only time will tell if that will be sufficient to stop this NLRB from further attacking those clauses.
Finally, factors have a new federal regulatory burden to deal with: the Corporate Transparency Act (“CTA”). The CTA was passed on January 1, 2021, slipped into the National Defense Authorization Act with little fanfare. Yet the regulatory change was massive: almost every business in America must report its “beneficial owners” and “company applicant” information to the Financial Crimes Enforcement Network (“FinCEN”).
A beneficial owner is defined as any individual who, directly or indirectly, (1) exercises substantial control over the entity or (2) owns or controls not less than 25 percent equity in the entity. An individual exercises substantial control if they serve as a senior officer of the company, have authority over the senior officers or a majority of the board of a company, or have substantial influence over the company’s important decisions, such as nature and scope of the company’s business, major expenditures, or incurrence of significant debt. A beneficial owner does not include a minor child; an individual acting as a nominee, intermediary, custodian, or agent on behalf of another individual; employees of an entity whose economic benefit comes solely from their employment at that entity; individuals whose only interest in an entity lies in inheritance; and creditors.
A company applicant (applicable only for companies formed January 1, 2024-onward), is an individual who either (1) directly files the document that creates a domestic reporting company or first registers a foreign entity to do business in the US, or (2) is primarily responsible for directing or controlling the filing of the relevant document by another, if more than one individual is involved in the filing.
A reporting company must disclose each of its beneficial owners or company applicant’s full legal name, date of birth, current address, unique identifying number from a document like a passport or driver’s license, and an image of the identification document. The BOI report must also include information about the reporting company, which includes full legal name of the reporting company, any trade names through which is conducts business (d/b/a), address of its principal place of business, formation jurisdiction, and its taxpayer identification number.
There are 23 categories of large or highly regulated entities that exempt from report, including banks and credit unions, publicly traded companies, and certain investment entities. 1 U.S.C. § 5336(a)(11)(B). Notably, none of the financial entity exceptions appear to capture a factoring business. But, there is a general exception for businesses that (1) employs more than 20 full-time employees, (2) had more than $5,000,000 in gross receipts or sales in the aggregates, and (3) has an operating presence at a physical office within the United States. Many factors could likely fit under this exception but for smaller factors, the reporting requirements remain.
If the exceptions do not apply, the reporting requirements are already here. If your business was formed before January 1, 2024, must report by December 31, 2024; companies formed after January 1, 2024, will have only 30 days to report. 31 C.F.R § 1010.380(a). Any changes must be reported within 30 days of the changes. 31 C.F.R. § 1010.380(a)(1)(iv).
As with the Non-Compete Ban, there is active litigation to stop this rule. In Nat’l Small Bus. United v. Yellen, No. 5:22-CV-1448-LCB, 2024 WL 899372, at *1 (N.D. Ala. Mar. 1, 2024), the court ruled on multiple grounds that the CTA is unconstitutional. While a serious strike against the CTA, this victory was limited: the injunction granted by the Court only applied to the individual plaintiff and to the National Small Business Association and its members. If a factor was not part of the NSBA at the time of the ruling, it is not protected. And, unsurprisingly, FinCEN has appealed that ruling. Again, this is one likely to ultimately go to the United States Supreme Court. For now, factors must either comply or sue FinCEN to stop the application of the rule.
Much energy is focused on the rising financial disclosure regulations and other finance-specific regulations that govern the factoring space. But it is crucial that factors, and the businesses that support them, not lose sight of the general business regulations that govern them as well. The federal government is actively working to limit the rights and increase the burdens on businesses, and factors must stay aware of these changes.
The views expressed in the Commercial Factor website are those of the authors and do not necessarily represent the views of, and should not be attributed to, the International Factoring Association.
