California Weighs Formal Penalties for Attempts to Enforce Restrictive Covenants |  Seyfarth Shaw

California Weighs Formal Penalties for Attempts to Enforce Restrictive Covenants | Seyfarth Shaw

California Weighs Formal Penalties for Attempts to Enforce Restrictive Covenants |  Seyfarth Shaw

The California legislature is considering new legislation that proposes, among other things, penalties for an employer’s use of restrictive covenants as well as for attorneys who assist with their enforcement.

Assembly Bill 747 was introduced in February 2023 and, if passed, would make the following changes:

  • The existing exceptions for restrictive covenants that are part of the sale of a business would be narrowed. Presently, any person who sells the goodwill of a business or who disposes of their ownership interest or other specified assets in a business may agree with the buyer to refrain from competing in the geographic area in which the sale occurred. AB 747 would modify the definition of “ownership interest” to require that the interest be more than a 10% interest in a total partnership or total membership or in the total shares of the entity’s ownership, perhaps in a nod to the FTC’s proposed rule that would ban non-competes (although the FTC’s proposal would set a threshold of 25%).
  • The definition of void contracts under Business & Professions Code § 16600 (contracts that restrain employees “from engaging in a lawful profession, trade, or business of any kind”) would be expanded to include contracts that require debtors to pay for a debt if the debtor’s employment or work relationship with a specific employer is terminated.
  • Employers would be prohibited from imposing any penalties or costs on employees or independent contractors for terminating the employment relationship.
  • Employers would be penalized for presenting a restrictive covenant as a term of employment or attempting to enforce a restrictive covenant. In the event of a violation, employers would be liable for actual damages and an additional penalty of $5,000 per employee or potential employee. Employees would be able to bring actions for injunctive relief, damages, and penalties, for which they could recover costs and attorney’s fees. The Attorney General would be required to investigate any allegations of a violation of this provision and would be authorized to bring an enforcement action in cooperation with the Labor Commissioner if any were discovered.
  • A new section would be added to the chapter of the Business and Professions Code governing attorneys, making it cause for “suspension, disbarment, or other discipline” for an attorney to enter into or attempt to enforce any contract that restrains an employee “from engaging in a lawful profession, trade, or business of any kind” (see Cal. Bus. & Prof. Code § 16600).
  • Finally, the bill would narrow an existing exception to the prohibition on employers requiring employees who reside and work in the state to advocate employment claims outside the state. Currently, this prohibition does not apply to employees individually represented by counsel in negotiating the terms of the agreement that designates the venue, forum, or choice of law of any employment claims. Under AB 747, employees would not only have to be represented by individual counsel but individual counsel could not be paid for by or even selected upon the suggestion of the employer.

AB 747 is one of several restrictive covenant bills pending before the California legislature. Another bill, AB 1076, would formally make the use of restrictive covenants unfair competition subject to California’s Unfair Competition Law (Business and Professions Code § 17200 et seq.). A third bill, Senate Bill 699, would tweak the voiding of restrictive covenants (found at California’s Business and Professions Code § 16600) to make its language even clearer.

While California’s hostility to restrictive covenants is far from new, AB 747 gives the state’s prohibition rather sharp teeth for both employers and their counsel. The bill has been re-referred to the Committee on Judiciary and set for hearing today, April 25. We’ll keep you updated on any progress the bill makes.

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