[Q&A] Does a Company Need to Provide Economic Compensation for a Non-compete?
2023. 10. 13
[Q&A] Does a Company Need to Provide Economic Compensation for a Non-compete?
As a corporate law firm, we are used to answering many questions from our clients about their business in China. In this series of Q&A articles, we will discuss some of the topics that our clients have shown interest in.
Question: Does a company need to provide economic compensation for a non-compete?
Answer: If a company decides to impose non-compete restrictions on an employee, it should pay the employee economic compensation as specified in the non-compete agreement or no less than the statutory standards. Let’s look into more details below.
• What is a non-compete?
According to Article 23 of the Labor Contract Law: "Employers can stipulate non-compete clauses in labor contracts or confidentiality agreements with employees who have confidentiality obligations, and specify that economic compensation shall be provided to employees on a monthly basis during the non-compete period after the termination of the labor contract. If the employee violates the non-compete agreement, they shall be obligated to pay penalties to the employer as agreed upon."
Article 24 stipulates: "Non-compete restrictions apply to senior management personnel, senior technical personnel, and other personnel with confidentiality obligations of the employer. The scope, geographical area, and duration of the non-compete restrictions shall be agreed upon by the employer and the employee. The non-compete agreement shall not violate the provisions of laws and regulations. The non-compete period for the personnel specified in the preceding paragraph, after the termination of the labor contract, may not exceed 2 years if they subsequently join other employers engaged in the production or operation of similar products, services, or if they establish their own business involved in similar products or services."
Based on the aforementioned provisions, non-compete restrictions are a legal measure taken by employers to protect their trade secrets from employees with confidentiality obligations. During the agreed-upon non-compete period, if the employee fulfills the obligations of the non-compete agreement, the employer should provide economic compensation to the employee.
• What are the payment standards for economic compensation?
Although the "Labor Contract Law" explicitly stipulates that employers should provide non-compete compensation, there is no specific standard defined for non-compete compensation. In compliance with mandatory provisions of laws and regulations, employers can negotiate with employees regarding the standards of non-compete compensation. Different regions or judicial practices may have varying standards. For example, the Supreme People's Court and the Shanghai Higher People's Court have issued the following documents:
"Interpretation of the Supreme People's Court on the Application of Law in the Trial of Labor Dispute Cases (I)" (Interpretation [2020] No. 26), Article 36 states, "If the parties have agreed on non-compete restrictions in the labor contract or confidentiality agreement but have not stipulated economic compensation to be paid to the employee after the termination or termination of the labor contract, and the employee has fulfilled the non-compete obligations, requesting the employer to pay economic compensation on a monthly basis at 30% of the employee's average monthly wage in the 12 months before the termination or termination of the labor contract, the People’s Court should support such claim. If the 30% of the average monthly wage as specified in the preceding paragraph is lower than the minimum wage standard at the place where the labor contract is performed, payment shall be made based on the minimum wage standard at the place where the labor contract is performed."
"Opinions of the Shanghai Higher People's Court on the Application of the" (Hu Gao Fa [2009] No. 73), Article 13 states: "In handling unclear provisions of non-compete restrictions, where the labor contract only stipulates that the employee should fulfill non-compete obligations but does not specify whether to pay compensation to the employee or, although agreeing to pay compensation to the employee, does not specify the specific payment standard, it can be deemed that the non-compete restrictions still bind both parties based on the unanimous expression of intent. If the amount of compensation is unclear, both parties can continue to negotiate the compensation standard; if no agreement is reached through negotiation, the employer should pay 20-50% of the employee's normal salary. If no agreement is reached through negotiation, the maximum duration of the restriction shall not exceed 2 years."
Furthermore, in addition to Shanghai, local regulations and documents related to non-compete compensation standards have been issued in Beijing, Tianjin, Shenzhen, Zhejiang, Jiangsu, and other regions. Employers should pay special attention to the relevant regulations and changes in their local area when formulating non-compete clauses, and seek assistance from legal professionals if necessary.
• What is the payment timeline for economic compensation?
According to Article 23 of the Labor Contract Law, the payment timeline for non-compete compensation should be after the termination of the labor relationship, on a monthly basis. Furthermore, according to relevant regulations, the maximum duration of a non-compete restriction period should not exceed two years. This means that within a two-year timeframe, the employer can agree with the employee on the duration of the non-compete restriction, such as six months, one year, or two years, among others. The employer should consider the actual circumstances of the company, the level of confidentiality involved, and other factors when determining an appropriate non-compete restriction period.
• What are the consequences of not paying economic compensation?
Article 38 of the Interpretation of the Supreme People's Court on Several Questions Concerning the Application of Law in the Trial of Labor Dispute Cases (I) (Judicial Interpretation [2020] No. 26) states that if the parties have agreed upon a non-compete restriction and economic compensation in the labor contract or confidentiality agreement, and the employer, due to its own reasons, fails to pay the economic compensation for three months after the termination of the labor contract, the employee's request to lift the non-compete restriction provision shall be supported by the people's court.
Therefore, if the employer exceeds three months without paying the economic compensation for non-compete restrictions, it is likely to render the non-compete restriction ineffective. Non-compete restrictions serve as a method to protect trade secrets. Employers utilizing these measures to protect trade secrets need to bear the corresponding costs, which include providing economic compensation during the non-compete period. Employers should fully consider various factors when drafting, signing, and implementing non-compete agreements in order to maximize their effectiveness.
