State and Federal Trends Narrowing Enforceability of Employee Restrictive Covenants, Nondisclosure Agreements

By Lindsay Dennis Swiger, Cate E. Barton, and Jackson Lewis P.C.

Restrictive covenants and nondisclosure agreements are essential tools employers use to protect and maintain confidential business information, customer goodwill, and other reputational and business interests that are often companies’ most significant assets. The legal landscape surrounding both restrictive covenants and nondisclosure agreements has undergone significant changes over the past few years, and it is imperative that employers stay up to date with these changes to comply with state and federal law in order to enforce these agreements and protect their organization’s legitimate business interests.

Many states have enacted laws with the goal of significantly limiting or even banning the use of restrictive covenants. For instance, the District of Columbia passed a broad ban on noncompete agreements in 2020. While the D.C. legislature has since walked back this all out ban with amendments allowing the use of noncompete agreements for high-income individuals (those with an annual income exceeding $150,000, or $250,000 for medical specialists), the statute still implements strict enforcement laws, including the use of specific language outlining exactly which roles, industries, or competing entities the employee may not work for, and requiring a 14-day consideration period for the employee prior to signing.

Similarly, New Jersey has introduced Bill A3715. If enacted, Bill A3715 would substantially limit the use and enforceability of restrictive covenants and impose greater procedural requirements on employers. The law would require employers to give 30 business days’ notice of the terms of the noncompete agreement prior to commencement of employment or prior to the effective date of the agreement. The law also would codify New Jersey common law enforcing only narrowly tailored noncompete agreements no broader than necessary to protect a company’s legitimate business interests, a limited enforceability scope of one-year post-employment, and explicit written notice in any noncompete agreement that the employee has the right to consult with independent counsel prior to signing the agreement.

Following this state law trend of limiting restrictive covenants, in August 2022, Colorado’s House Bill 22-1317 became law. It prohibits the use of restrictive covenants and nonsolicitation agreements except within the sale of business context or for “highly compensated” employees earning at least $102,250 (adjusted annually). This law also makes agreements prohibiting the solicitation of customers void, unless an employee earns at least 60 percent of the threshold amount for highly compensated employees (currently, $60,750), and requires a 14-day notice period prior to the effective date of the agreement or change in condition of employment.

These laws are just a sample of the continuing trend of similar state laws increasing limitations on enforceable restrictive covenants and are part of a broader pattern of state laws requiring narrow construction of restrictive covenants.

In addition, state and federal laws are trending toward more limitations on arbitration and nondisclosure agreements. The “Me Too” movement has considerably influenced laws surrounding nondisclosure and arbitration agreements as they relate to claims of sexual assault and sexual harassment. Moreover, President Joe Biden has signed into law the “Ending Forced Arbitration of Sexual Assault and Sexual Harassment Act of 2021.” The Act gives employees the option to invalidate arbitration agreements and class or collective action waivers with respect to sexual assault and sexual harassment claims. This means employees may choose to arbitrate these claims or pursue them in court, regardless of any contractual agreements with their employers. The Act applies to all claims that arise or accrue after March 3, 2022, regardless of the date of the agreement at issue. The Act, however, does not affect claims that arose or accrued before March 3, 2022. Similar laws limiting nondisclosure agreements in the context of sexual assault or harassment claims have been proposed or enacted in some states, including California, Maine, Maryland, Oregon, Tennessee, Vermont, and Washington.

However, not all nondisclosure agreement bans are limited to sexual harassment and sexual assault claims. Many states have enacted or are in the process of enacting laws prohibiting nondisclosure provisions in settlement agreements relating to discrimination on any basis. In 2019, New Jersey enacted S.B. 121, which provides that any employment contract or settlement agreement “which has the purpose or effect of concealing the details relating to a claim of discrimination, retaliation, or harassment” will be unenforceable against current and former employees. This law effectively nullifies agreements compelling arbitration and confidentiality in the context of many employment-related claims, including but not limited to those based on sex.

Similarly, Washington State Legislature’s “Silence No More Act,” enacted earlier this year, prohibits agreements “not to disclose or discuss conduct, or the existence of a settlement involving conduct, that the employee reasonably believed under Washington state, federal, or common law to be illegal discrimination, illegal harassment, illegal retaliation, a wage and hour violation, or sexual assault, or that is recognized as against a clear mandate of public policy[.]” Other state laws, such as New York’s 2019 law, limit nondisclosure provisions in settlement agreements, the foundation of which involves discrimination on any basis, unless a confidentiality provision is the complainant’s preference.

Newly enacted and proposed state and federal laws trend toward limiting nondisclosure and restrictive covenant agreements, enforcing only those that are narrowly tailored to protect companies’ legitimate business interests, customer goodwill, and reputation, while balancing employee rights and protections. Now is the time to review your organization’s nondisclosure agreements and restrictive covenants to keep pace with the changing legal landscape, to comply with applicable state and federal laws, and to protect your organization’s most valuable assets. Employers should continue to monitor all jurisdictions in which they have employees and pay close attention to applicable exceptions when using restrictive covenant and nondisclosure agreements, as well as adhering to limitations on scope, timeliness, employee income, and notice requirements.