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How to Create Enforceable Non-Compete Agreements

It is unfortunate that the majority of agencies still do not have Non-Compete and Non-Piracy Agreements with producers and other key employees. Three things can happen without these agreements...and two of them are bad. In this article, we'll distinguish between these two types of employment contracts and explain what they should include and why.

1. The relationship between the producers, employees, and the agency can continue in good stead until they retire.

2. Producers or employees unhappy with the agency can leave and market themselves as being able to bring many accounts with them (their own produced accounts or other agency accounts with which they are familiar).

3. Successful producers can use their produced book of business as leverage for additional compensation or ownership with the alternative being their leaving and joining another firm.

And, if you ever want to sell your agency, its value to a buyer suffers if the ownership of accounts is in question. The new owner never knows whether or not your producers will choose to stay with the agency or leave, challenging the new owner on every purchased account. Any valuer would have to discount the agency's value in a transaction in which these conditions existed. You should expect any agency ownership transfer to include a retention factor (a further risk to the former owner) if Non-Compete or Non-Piracy clauses do not exist.

First, let's define and differentiate between Non-Compete Agreements and Non-Piracy Agreements.

A Non-Compete Agreement forbids a producer or controlling employee from taking accounts for which they are responsible to another agency.
A Non-Piracy Agreement forbids a producer or other employee from taking other agency accounts or prospects to another agency.

The first and primary rule in the enforcement of Non-Compete and Non-Piracy Agreements is that you cannot hope to enforce an agreement that forbids a person from earning a living in the profession of his/her choice in his/her hometown or familiar geographic area. The courts always lean toward the former employee if they perceive a prohibition against that employee being allowed to earn a living. Nor do they look kindly on a former employer trying to force an employee to move from familiar surroundings if (s)he wants to work in their profession.

However, a Non-Compete and/or Non-Piracy Agreement can be constructed in a way that protects the agency, while not prohibiting the employee from moving to another employer within the same area and practicing the same profession that he did with his/her prior employer.

First, geography and time period. Never tie a Non-Compete or Non-Piracy Agreement to any geographic area. It stands a good chance of being overturned in court. Recent arguments in court cases seem to support the reasonableness of two years for Non-Compete Agreements and three years for Non-Piracy Agreements. Why the difference?

It is argued that the relationship between clients and an agency is built by the producer responsible for the relationship and is maintained by the Account Executives assigned to the account. Over the course of the relationship, those employees ARE the agency as far as the client is concerned, and, during the course of the relationship, if the employee suggests that the agency can no longer service the client's needs and that the employee will be moving and taking the client to "make sure that the account is properly serviced", the client, not having other strong relationships within the agency, may approve the move.

What the client doesn't see is that the agency has supported the marketing to, placement of, and servicing of the insurance account with all of its resources, not just the efforts of the one employee. As the result of the expensing and support of the entire agency, the account could be solicited, the producer compensated, the agency markets accessed, and the account administered and serviced. For this reason, clients produced by employees of an agency become a part of the asset base of the agency and gain value for the agency.

The agency's Non-Compete Agreement specifically addresses accounts that are produced by or in which the relationship is built with a specific agency employee. If that employee leaves, it is expected that (s)he will not solicit those accounts for a period of time sufficient for the agency to create a new relationship with the client. After that period, the former employee is like any other agent and can solicit these former accounts as well as any other account (s)he chooses.

And it is reasonable to expect that the evolution of a new relationship will take a period of time that includes at least one full renewal period (two renewal processes). After that period, if the relationship has not been rebuilt between the agency and the client, then the client becomes "fair game" for any producer, including the former employee.

A second argument for the two-year Non-Compete period is that the information gathered by the producer (or other employee) during his/her employment at the agency is confidential and proprietary to the agency. After all, the employee developed that information while being supported by the agency as its employee. The employee would not have access to that information had (s)he not been employed by the agency during the period that the relationship was built with the client.

A two-year period during which the former employee has no access to the client's insurance information or data is sufficient to put him/her on an even keel with any other producer soliciting the client as a prospect. The client data with which (s)he was familiar would have staled sufficiently in two years that (s)he could only evolve a competitive quote by again soliciting that client as a new prospect and evolving new information regarding the client's insurance needs.

One year is insufficient to change the client's information sufficiently to avoid the former employee from having an advantage due to his/her knowledge of the agency's confidential information. That information need not be formal copies of files. Simple memory and familiarity with clients with whom the employee was very familiar is sufficient to provide him/her an unfair advantage.

A Non-Piracy Agreement differs from a Non-Compete Agreement in that it applies to clients and prospects of an agency for which a former employee was not specifically responsible. The classic example involves the copying or printing of files, policies or expirations and their use as a solicitation device by the former employee (or a firm to which the former employee moved using these files as leverage). There is no question of the ownership of these accounts and prospect information. If a former employee takes and uses data about clients or prospects created by his/her former employee, it is considered theft of information. The only question is how long that information is exempted from use by a former employee within a Non-Piracy Agreement.

It has been successfully argued that information about clients with whom the former employee did not even have a primary producer or account management relationship should be protected from unlawful solicitation for a period of time during which the information to which the former employee had access was no longer valid or useful in the solicitation of that account. This could be from two years for a client or prospect that was volatile and changeable to as much as five years for stable clients and prospects whose information does not change radically from year to year.

Since the conditions of a Non-Compete or Non-Piracy Agreement are different, it is appropriate for these to be separate and of different time periods. Some attorneys have tried to degrade Non-Compete and Non-Piracy clauses that have been combined in definitions or terms. This is avoided when each carries its own definition and term.

How you pay producers can help or hinder your argument that they are employees and are supported by the agency in their efforts.

Some agents try to avoid payroll taxes and benefits by paying producer higher commissions and making them responsible for all of their expenses (as if they were not agency employees). This is shortsighted and may very well promote the perception that they are not really agency employees. However, by IRS standards, P&C producers, however they are paid, are agency employees if they are full time insurance agents (not writing only arguments that can be used that the producer works for himself and is not supported by the agency is made by that former producer's (or employee's) attorney when trying to fight the Non-Compete or Non-Piracy Agreements that the agency seeks to enforce.

The far-sighted agencies have replaced higher gross commission with no benefits and expenses with lower net commissions, but benefits and normal business expenses that fit the employee role in which most producers fit. It ties the producer better to the agency. The money that a producer saves by deducting his own business expenses on his tax return is never as much as he must spend on health insurance. Meanwhile all of those expenses AND the health insurance are deductible to the agency if the producer is an employee.