What Is a Noncompete Agreement?

Definition and Examples of a Noncompete Agreement

Non-compete agreement

The Balance / Danie Drankwalter

A noncompete agreement is a contract between an employee and an employer in which the employee agrees not to enter into competition with the employer during or after employment. These legal contracts prevent employees from entering into markets or professions considered to be in direct competition with the employer. 

Learn more about why employers use these contracts and what is typically included.

What Is a Noncompete Agreement?

A noncompete agreement is a contract that prohibits an employee from working for or becoming a competitor for a certain period of time.

Noncompete agreements are enforced when a relationship between an employer and employee ends and the employer wishes to prevent the employee from competing against them in their next position, whether working for a competitor in the same market or starting up another business in the same field (and recruiting the company's workers to leave with them).

Consultants and independent contractors who terminate their relationships with companies often are subject to noncompete clauses to avoid competition after the separation.

Employers also may seek noncompete agreements to protect themselves against former employees revealing secrets or sensitive information about operations, clients, customers, formulas, pricing, strategy, salary, methods and practices, ideas, future products, or public relations and marketing plans.

  • Alternate names: Noncompete, noncompete clause, noncompete covenant, covenant not to compete

How a Noncompete Agreement Works

Noncompete agreements overall should be both fair and equitable for all parties. They require certain information in order to be considered enforceable:

  • An effective date on which the agreement will begin
  • A reason for enacting the agreement
  • Specific dates during which the employee will be barred from working in a competitive sense and the location covered by the agreement
  • Details as to how the noncompeting party will be compensated for agreeing to the terms

A noncompete agreement is typically in effect for a certain period of time after employment ends.

Determine the effective dates of the agreement well in advance and seek legal counsel, as employers can set noncompete agreements only within a realistic timeline and cannot permanently prevent former employees from furthering their careers in that field.

There sometimes are challenges as to whether noncompete agreements are legally binding. There isn't a simple answer; it varies from case to case.

Noncompete agreements usually are considered legally binding as long as they have reasonable limitations, such as clear, realistic regions where employees may or may not work, or an exact amount of time that must pass before an employee may commence work in the field again.

However, the validity of noncompete agreements varies by state. Some states, such as California, North Carolina, and Oklahoma, disregard these agreements altogether, while others pick and choose which careers prove more risk for a company and, therefore, can be subject to such an agreement.

An example of a noncompete agreement might involve a company that is one of only two or three such companies in a market that offers a specific product or service. The company may ask salespeople to sign a noncompete agreement because they don't want those salespeople going to a direct competitor and trying to take their client list with them.

Another example might include a software company that doesn't want its developers going to a competitor where they can share detailed knowledge about products being developed.

Pros and Cons of a Noncompete Agreement

Pros

  • Protects a company's trade secrets

  • May reduce turnover

  • May incentivize an employer to provide costly training

Cons

  • Can reduce a worker's bargaining power

  • May cause a worker to leave a field entirely, taking their expertise with them

Pros Explained

  • Protects a company's trade secrets: Noncompete agreements can prevent employees from taking sensitive information to a competitor.
  • May reduce turnover: Companies with noncompete agreements may be a good fit with workers who have a lesser desire to change jobs.
  • May incentivize an employer to provide costly training: The chance is reduced of an employee taking the skills learned from costly training and taking them to another company.

Cons Explained

  • Can reduce a worker's bargaining power: An estimated 37% of workers are asked to sign a noncompete agreement after beginning work, when they have little leverage and have closed the door to other opportunities.
  • May cause a worker to leave a field entirely, taking their expertise with them: Noncompetes can have an adverse effect on the workforce by preventing top talent from using their skills and experience, essentially forcing them out of the field.

Key Takeaways

  • A noncompete agreement is a contract that delays an employee from working for or becoming a competitor to their employer for a certain period of time after their working relationship ends.
  • The enforceability of these agreements varies by state, and some states won't enforce them at all.
  • Noncompetes should be reviewed by legal counsel to make sure they're not overly restrictive or harmful to the employee.

Article Sources

  1. Office of Economic Policy, U.S. Department of the Treasury. "Non-compete Contracts: Economic Effects and Policy Implications," Page 3. Accessed July 6, 2020.

  2. NOLO. "Understanding Noncompete Agreements." Accessed July 6, 2020.