Government draft bill to reform rules on non-competition agreements

D&I Quarterly Q3/2020

Posted on

29 Oct

2020

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D&I Quarterly

D&I Quarterly Q3/2020 brings together a selection of our experts’ articles published on our digital magazine Quarterly and here on D&I Insight.

Dittmar & Indrenius > Insight > Government draft bill to reform rules on non-competition agreements

Employers who consider it necessary to prevent their employees from engaging in competing activities after their employment has ended should keep a keen eye on a legislative proposal that the Finnish Government is preparing. According to a draft government proposal, employers would be required to pay a compensation to departing employees during the non-compete period.

General requirements for non-competition agreements

The existing requirements for non-competition agreements under the Finnish Employment Contracts Act would remain in place, including the requirement of a ‘particularly weighty’ reason that the employer needs to satisfy in order to enforce a non-competition agreement.

However, the current law does not provide for any compensation to be paid to the employee for a post-termination non-competition undertaking, if the length of the non-compete period is not more than six months. For longer restrictions, the employer has to pay a ‘reasonable’ compensation. Consequently, the length of non-competition undertakings is typically limited to six months. With its proposal, the Government seeks to curb the use of non-competition agreements by expanding the employee’s right to compensation.

The draft proposal would extend the pay requirement to all non-competition agreements regardless of the duration of the non-compete period. In contrast to existing law, the proposal defines the amount of the compensation and timing of its payment. The compensation level would depend on the length of the post-termination non-compete period. If the period does not exceed six months, the compensation would be 40% of the employee’s salary. For longer periods, the employer would be required to pay 60% of the salary during the entire period. The compensation would be payable even if the employee would not suffer any actual loss of income during the non-compete period. The employee may, for example, find new employment with a noncompeting employer and be simultaneously entitled to receive the compensation. The compensation would, as a starting point, be paid on the same pay dates as during the employment.

The post-termination non-competition obligation does not bind the employee if the employer terminates the employment relationship on grounds not related to the employee. In such case, the employer is not obliged to pay the compensation either. However, it is unclear whether the employer would be obliged to pay compensation for a non-competition undertaking that is unenforceable because the requirement for a particularly weighty reason is not met. On the basis of the draft proposal, it appears that the employer may be obliged to pay compensation also in such circumstances. If this question will not be addressed, it may give rise to disputes. In order to avoid uncertain outcomes, it is highly recommended that employers regularly assess the grounds for non-competition agreements and, if needed, use the unilateral right to terminate these (see below).

What constitutes a non-competition undertaking?

A standard non-competition provision prevents the employee from entering into an employment relationship with or otherwise engaging or having any interest in a competing business. These kinds of provisions clearly fall within the scope of the proposed compensation obligation.

However, employers should also be aware that the Finnish Supreme Court has extended the current requirement of a particularly weighty reason to provisions which, although not specifically labelled as non-competition undertakings, “in one way or another restrict the employee’s possibility to carry out activities in the same field of business” (KKO 2003:19). There is thus uncertainty as to whether, for example, a non-solicitation provision would make the employer liable for the proposed compensation. In other words, a provision that limits the employee’s right to accept business from the employer’s customers might be regarded as a de facto non-competition provision in light of Supreme Court case law. Employers would be well served by further guidance from the Government on the intended scope of the new obligation.

Termination of non-competition agreement

Under the draft proposal, the employer would have the right to terminate a non-competition agreement (separately from the rest of the employment contract) by giving notice to the employee and observing a notice period corresponding to the duration of the non-compete period. This would allow the employer to unilaterally withdraw from a non-competition agreement should the restriction become unnecessary, for example, due to a change in the employee’s job duties or other circumstances.

In practice, concluding a new employment contract without a non-competition provision (for instance, in connection with a change of work duties) or otherwise agreeing on the change would also lead to a similar result without delay but, of course, it requires the employee’s consent.

No unilateral right of termination exists after the employee has given notice of termination of employment. Agreeing on the matter is, however, possible even then.

Transition period for existing non-competition undertakings

According to the draft proposal, the changes would enter into force on 1 January 2021 and, significantly, would also apply to existing non-competition undertakings. However, in order to give employers time to adjust to the changes, the proposal envisages a transition period of one year concerning existing agreements. The new rules would be not be applied to these agreements before the expiry of the one year period. During the transition period, the employer would also have the specific right to terminate a non-competition agreement without notice. In addition, for those non-competition agreements that provide for payment of reasonable compensation, the proposed amendments would not become effective at all if the compensation has been paid (even in part) before the date of entry into force of the amendments.

Conclusions

For employers, the proposed changes would not only increase costs but also administrative burden. Therefore, we expect to see changes in employment contract management practices at the workplace.

Assuming that the regulatory changes take effect, the employers should

  • Review their employment contract templates and the pool of current contracts to determine the roles in which a post-termination non-competition obligation is necessary and enforceable.
  • Terminate any unnecessary non-compete clauses in the existing contracts.
  • Ensure that other terms of employment (such as confidentiality and non-solicitation clauses) provide sufficient protection to the employer’s confidential business information. When drafting employment contracts, non-competition provisions should be separated from other post-employment undertakings (such as confidentiality or non-solicitation clauses). This allows the employer to separately terminate the non-competition obligation and may potentially reduce the possibility that other restrictive
    undertakings will be found to constitute de facto non-competition agreements.
  • Implement new contract management practices. For instance, employers may wish to consider concluding new employment contracts when employees’ work duties change materially. This way, the need for the non-competition undertaking would be regularly assessed. In addition, this practice would ensure that the employment contracts would also otherwise remain accurate and contain all relevant terms of service.

The Government is expected to give its final proposal to the Parliament in the coming weeks. We will, of course, keep you updated on the contents of the final proposal and the relevant legislative changes.

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