New Washington Act Limits Noncompetition Covenants for Employees and Independent Contractors—With a Big Poison Pill Included

05.09.19

On May 8, 2019, Governor Inslee signed ESHB 1450, implementing a series of requirements for enforceable noncompetition covenants in Washington, as well as provisions relating to moonlighting restrictions and franchise arrangements. Any action to enforce a noncompetition covenant started on or after January 1, 2020, will be subject to these new provisions.

Liability for damages and attorney fees, even if the noncompetition covenant is largely enforced.

While companies can certainly modify or create noncompetition covenants to comply with the new requirements, they should be aware that if any part of a noncompetition covenant is found to be unenforceable or is modified, the company will be liable for the other party’s damages and attorney fees—even if the covenant is still partially enforced. This “poison pill” provision may make many companies stop using noncompete covenants altogether.

What are and are not “noncompetition covenants”?

Noncompetition covenants are defined as “every written or oral covenant, agreement, or contract by which an employee or independent contractor is prohibited or restrained from engaging in a lawful profession, trade, or business of any kind.”

Noncompetition covenants explicitly do not include (1) nonsolicitation agreements limiting a former employee from soliciting customers to cease or restrict doing business with the company or soliciting former coworkers to leave the company,
(2) confidentiality provisions, (3) prohibitions on use or disclosure of trade secrets or inventions, (4) noncompetition covenants entered into upon the sale of the goodwill of a business or ownership interest, and (5) covenants by a franchisee when the franchise sale complies with RCW 19.100.020(1) (more below on franchise implications).

What are the requirements for an enforceable noncompetition covenant?

Common law already restricts noncompetition covenants, which must be both reasonable and necessary to protect the company’s business. This bill does not eliminate those requirements for covenants in effect now or going forward. But effective January 1, 2020, noncompetition covenants will have to meet several additional requirements in order to be enforceable:

  • For Employees:
    • The employee’s W-2 earnings (in box 1) paid the prior year, annualized and calculated as of either the date on which the employer seeks to enforce the covenant or the date on which employment ends (whichever occurs first) must exceed $100,000 in 2020. The earnings threshold will be adjusted annually for inflation.

    • The employer must disclose the covenant in writing to a prospective employee no later than when the person accepts a job offer, even if the covenant is enforceable only if the employee reaches a specified income level in the future.

    • If the employee signs the covenant after starting work, the employer must pay independent consideration (such as a raise or bonus).

    • If the employee is laid off, the employer must pay the employee his or her last base salary for the period during which the covenant is being enforced, less whatever the employee earns from new employment while the covenant is enforced.

    • A covenant restricting competition for more than 18 months following separation is presumptively unreasonable and unenforceable. An employer can overcome that presumption with clear and convincing evidence that it needs a longer restriction to protect the party’s business or goodwill.
  • For Independent Contractors:
    • To enforce a noncompetition covenant against an independent contractor, in 2020 the annualized earnings paid to the independent contractor the prior year must exceed $250,000. As with employees, this earnings threshold will be adjusted annually for inflation.

    • If the independent contractor is a performer, the duration of the noncompetition covenant cannot exceed three calendar days.

To be enforceable, noncompetition covenants cannot require that a Washington-based employee litigate or arbitrate the covenant outside Washington. Likewise, such covenants are void and unenforceable to the extent that they deprive the employee or independent contractor of any of the bill’s protections or benefits.

What are the particular restrictions pertaining to franchisors / franchisees?

The bill specifically excludes from coverage a noncompetition covenant entered into by a franchisee, as long as the franchise sale is properly registered under Washington’s Franchise Investment Protection Act, or exempt from registration.

There is some ambiguity, however, because it is possible for a franchisee both to meet the definition of a franchise under the law and to be an employee. For example, some janitorial services franchisors have been accused of meeting the definition of an employer for workers’ compensation coverage purposes. A franchisor should carefully consider whether its system falls within the definition of an employment relationship under RCW 49.17.020 when attempting to enforce a noncompetition covenant against a franchisee.

In addition, the bill prohibits so-called no-poaching agreements. A typical no-poaching agreement between a franchisor and franchisee prohibits the franchisee from soliciting employees of other franchisees or the franchisor in the same franchise system. Although these agreements are designed to promote system harmony and to encourage competition with other franchise brands, they have come under fire in recent years by regulators in various states that have accused them of violating antitrust laws and depressing worker wages.

How does the bill affect policies prohibiting employees from “moonlighting”?

Generally, beginning January 1, 2020, employers may not restrict or prohibit an employee earning less than twice the state minimum wage from having a second job, supplementing the person’s income by working for another employer, working as an independent contractor, or being self-employed. In 2020, the state minimum wage will be $13.50, meaning that any employee earning less than $27.00 per hour cannot generally be prohibited from moonlighting. After 2020, the state minimum wage will be adjusted annually for inflation, so this threshold pay level will change each year.

Employers can prohibit moonlighting when it would raise issues of safety for the employee, coworkers, or the public, or would interfere with the employer’s reasonable and normal scheduling expectations.

Notwithstanding these moonlighting provisions, employees continue to have the same obligations to their employers under existing law, including the common-law duty of loyalty and laws preventing conflicts of interest, and under any corresponding policies addressing those obligations. Thus, for example, an employer can prohibit an employee from moonlighting at a job that would present a conflict of interest.

How will this new bill be enforced? Can an employee or independent contractor sue for relief?

The Washington Attorney General is authorized to pursue any and all relief on behalf of any person or group of people, for violation of any of the bill’s provisions.

As to noncompetition covenants, any individual who is a party to the covenant and believes it violates the new bill may file a private cause of action and pursue all the relief available under the statute.

Regardless of whether it is the Attorney General, a former employee/independent contractor, or the company that files suit, if a court or arbitrator determines that a noncompetition covenant is unenforceable in whole or in part, the company seeking to enforce the covenant will be liable for the individual’s actual damages or statutory damages of $5,000, and for the other party’s attorney fees and costs incurred in the proceeding. Even if the court or arbitrator modifies the covenant in a minor way but otherwise generally enforces the covenant, the company will still be liable for damages and attorney fees and costs.

The new bill’s provisions will apply to any lawsuit or arbitration started on or after January 1, 2020, regardless of when the noncompetition covenant was entered into or when the cause of action arose. There is a limited exception: with regard to noncompetition covenants signed before January 1, 2020, no cause of action can be brought by the employee/independent contractor or Attorney General if the company is not enforcing the noncompetition covenant.

Only the Attorney General may sue for violations of the moonlighting or franchise no-poaching provisions. Employers should remember, however, that terminating an employee for violating moonlighting provisions might still lead to common-law liability for wrongful discharge in violation of public policy.

What about trade secrets?

The bill specifically excludes provisions protecting a company’s trade secrets from the definition of noncompetition covenants. Additionally, the bill specifically states that it does not amend or modify the Washington Uniform Trade Secret Act, or any actions that a company could bring under that statute to protect its trade secrets.

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