SECTION 3. EARNINGS

ADJUSTMENT METHODS AND EXAMPLES

.01 Earnings Adjustment Methods . (1) In general . (a) Under section 6.02(4)(a) of this revenue procedure, whenever the appropriate correction method for an Oper

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ational Failure in a defined contribution plan includes a corrective contribution or allocation that increases one or more employees’ account balances (now or in the future), the contribution or allocation is adjusted for Earnings and forfeitures. This section 3 provides Earnings adjustment methods (but not forfeiture adjustment methods) that may be used by a Plan Sponsor to adjust a corrective contribution or allocation for Earnings in a defined contribution plan. Consequently, these Earnings adjustment methods may be used to determine the Earnings adjustments for corrective contributions or allocations made under the correction methods in section 2 and under the correction methods in Appendix A. If an Earnings adjustment method in this section 3 is used to adjust a corrective contribution or allocation, that adjustment is treated as satisfying the Earnings adjustment requirement of section 6.02(4)(a) of this revenue procedure. Other Earnings adjustment methods, different from those illustrated in this section 3, may also be appropriate for adjusting corrective contributions or allocations to reflect Earnings.

(b) Under the Earnings adjustment methods of this section 3, a corrective contribution or allocation that increases an employee’s account balance is adjusted to reflect an “earnings amount” that is based on the Earnings rate(s) (determined under section 3.01(3)) for the period of the failure (determined under section 3.01(2)). The Earnings amount is allocated in accordance with section 3.01(4).

(c) The rule in section 6.02(5)(a) of this revenue procedure permitting reasonable estimates in certain circumstances applies for purposes of this section 3. For this purpose, a determination of Earnings made in accordance with the rules of administrative convenience set forth in this section 3 is treated as a precise determination of Earnings. Thus, if the probable difference between an approximate determination of Earnings and a determination of Earnings under this section 3 is insignificant and the administrative cost of a precise determination would significantly exceed the probable difference, reasonable estimates may be used in calculating the appropriate Earnings.

(d) This section 3 does not apply to corrective distributions or corrective re

ductions in account balances. Thus, for example, while this section 3 applies in increasing the account balance of an improperly excluded employee to correct the exclusion of the employee under the reallocation correction method described in section 2.02(2)(a)(iii)(B), this section 3 does not apply in reducing the account balances of other employees under the reallocation correction method. (See section 2.02(2)(a)(iii)(C) for rules that apply to the Earnings adjustments for such reductions.) In addition, this section 3 does not apply in determining Earnings adjustments under the one-to-one correction method described in section 2.01(1)(b)(iii).

(2) Period of the Failure . (a) General Rule . For purposes of this section 3, the “period of the failure” is the period from the date that the failure began through the date of correction. For example, in the case of an improper forfeiture of an employee’s account balance, the beginning of the period of the failure is the date as of which the account balance was improperly reduced. See section 6.02(4)(f) of this revenue procedure.

(b) Rules for Beginning Date for Ex- clusion of Eligible Employees from Plan . (i) General Rule . In the case of an exclusion of an eligible employee from a plan contribution, the beginning of the period of the failure is the date on which contributions of the same type (for example, elective deferrals, matching contributions, or discretionary nonelective employer contributions) were made for other employees for the year of the failure. In the case of an exclusion of an eligible employee from an allocation of a forfeiture, the beginning of the period of the failure is the date on which forfeitures were allocated to other employees for the year of the failure.

(ii) Exclusion from a § 401(k) or (m) Plan . For administrative convenience, for purposes of calculating the Earnings rate for corrective contributions for a plan year (or the portion of the plan year) during which an employee was improperly excluded from making periodic elective deferrals or after-tax employee contributions, or from receiving periodic matching contributions, the Plan Sponsor may treat the date on which the contributions would have been made as the midpoint of the plan year (or the midpoint of the portion

of the plan year) for which the failure occurred. Alternatively, in this case, the Plan Sponsor may treat the date on which the contributions would have been made as the first date of the plan year (or the portion of the plan year) during which an employee was excluded, provided that the Earnings rate used is one half of the Earnings rate applicable under section 3.01(3) for the plan year (or the portion of the plan year) for which the failure occurred.

(3) Earnings Rate . (a) General Rule . For purposes of this section 3, the Earnings rate generally is based on the investment results that would have applied to the corrective contribution or allocation if the failure had not occurred.

(b) Multiple Investment Funds . If a plan permits employees to direct the investment of account balances into more than one investment fund, the Earnings rate is based on the rate applicable to the employee’s investment choices for the period of the failure. For administrative convenience, if most of the employees for whom the corrective contribution or allocation is made are nonhighly compensated employees, the rate of return of the fund with the highest rate of return under the plan for the period of the failure may be used to determine the Earnings rate for all corrective contributions or allocations. If the employee had not made any applicable investment choices, the Earnings rate may be based on the rate of return under the plan as a whole (that is, the average of the rates earned by all of the funds in the valuation periods during the period of the failure weighted by the portion of the plan assets invested in the various funds during the period of the failure).

(c) Other Simplifying Assumptions . For administrative convenience, the Earnings rate applicable to the corrective contribution or allocation for a valuation period with respect to any investment fund may be assumed to be the actual Earnings rate for the plan’s investments in that fund during that valuation period. For example, the Earnings rate may be determined without regard to any special investment provisions that vary according to the size of the fund. Further, the Earnings rate applicable to the corrective contribution or allocation for a portion of a valuation period may be a pro rata portion of the Earnings rate for the entire valuation period, unless

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the application of this rule would result in either a significant understatement or overstatement of the actual Earnings during that portion of the valuation period.

(4) Allocation Methods . (a) In General . For purposes of this section 3, the Earnings amount generally may be allocated in accordance with any of the methods set forth in this paragraph (4). The methods under paragraph (4)(c), (d), and (e) are intended to be particularly helpful where corrective contributions are made at dates between the plan’s valuation dates.

(b) Plan Allocation Method . Under the plan allocation method, the Earnings amount is allocated to account balances under the plan in accordance with the plan’s method for allocating Earnings as if the failure had not occurred. (See, Example 28.)

(c) Specific Employee Allocation Method . Under the specific employee allocation method, the entire Earnings amount is allocated solely to the account balance of the employee on whose behalf the corrective contribution or allocation is made (regardless of whether the plan’s allocation method would have allocated the Earnings solely to that employee). In determining the allocation of plan Earnings for the valuation period during which the corrective contribution or allocation is made, the corrective contribution or allocation (including the Earnings amount) is treated in the same manner as any other contribution under the plan on behalf of the employee during that valuation period. Alternatively, where the plan’s allocation method does not allocate plan Earnings for a valuation period to a contribution made during that valuation period, plan Earnings for the valuation period during which the corrective contribution or allocation is made may be allocated as if that employee’s account balance had been increased as of the last day of the prior valuation period by the corrective contri

bution or allocation, including only that portion of the Earnings amount attributable to Earnings through the last day of the prior valuation period. The employee’s account balance is then further increased as of the last day of the valuation period during which the corrective contribution or allocation is made by that portion of the Earnings amount attributable to Earnings after the last day of the prior valuation period. (See Example 29.)

(d) Bifurcated Allocation Method . Under the bifurcated allocation method, the entire Earnings amount for the valuation periods ending before the date the corrective contribution or allocation is made is allocated solely to the account balance of the employee on whose behalf the corrective contribution or allocation is made. The Earnings amount for the valuation period during which the corrective contribution or allocation is made is allocated in accordance with the plan’s method for allocating other Earnings for that valuation period in accordance with section 3.01(4)(b). (See Example 30.) (e) Current Period Allocation Method . Under the current period allocation method, the portion of the Earnings amount attributable to the valuation period during which the period of the failure begins (“first partial valuation period”) is allocated in the same manner as Earnings for the valuation period during which the corrective contribution or allocation is made in accordance with section 3.01(4)(b). The Earnings for the subsequent full valuation periods ending before the beginning of the valuation period during which the corrective contribution or allocation is made are allocated solely to the employee for whom the required contribution should have been made. The Earnings amount for the valuation period during which the corrective contribution or allocation is made (“second partial valuation period”) is al

located in accordance with the plan’s method for allocating other Earnings for that valuation period in accordance with section 3.01(4)(b). (See Example 31.)

.02 Examples .

Example 28 :

Employer L maintains a profit-sharing plan that provides only for nonelective contributions. The plan has a single investment fund. Under the plan, assets are valued annually (the last day of the plan year) and Earnings for the year are allocated in proportion to account balances as of the last day of the prior year, after reduction for distributions during the current year but without regard to contributions received during the current year (the “prior year account balance”). Plan contributions for 1997 were made on March 31, 1998. On April 20, 2000, Employer L determines that an operational failure occurred for 1997 because Employee X was improperly excluded from the plan. Employer L decides to correct the failure by using the Appendix A correction method for the exclusion of an eligible employee from nonelective contributions in a profitsharing plan. Under this method, Employer L determines that this failure is corrected by making a contribution on behalf of Employee X of $5,000 (adjusted for Earnings). The Earnings rate under the plan for 1998 was �20%. The Earnings rate under the plan for 1999 was �10%. On May 15, 2000, when Employer L determines that a contribution to correct for the failure will be made on June 1, 2000, a reasonable estimate of the Earnings rate under the plan from January 1, 2000 to June 1, 2000 is �12%.

Earnings Adjustment on the Corrective Contri- bution :

The $5,000 corrective contribution on behalf of Employee X is adjusted to reflect an earnings amount based on the Earnings rates for the period of the failure (March 31, 1998 through June 1, 2000) and the earnings amount is allocated using the plan allocation method. Employer L determines that a pro rata simplifying assumption may be used to determine the Earnings rate for the period from March 31, 1998 to December 31, 1998, because that rate does not significantly understate or overstate the actual investment return for that period. Accordingly, Employer L determines that the Earnings rate for that period is 15% (9/12 of the plan’s 20% Earnings rate for the year). Thus, applicable Earnings rates under the plan during the period of the failure are:

Time Periods Earnings Rate

3/31/98 - 12/31/98 (First Partial Valuation Period) �15%

1/1/99 - 12/31/99 �10%

1/1/00 - 6/1/00 (Second Partial Valuation Period) �12%

If the $5,000 corrective contribution had been contributed for Employee X on March 31, 1998, (1) Earnings for 1998 would have been increased by the amount of the Earnings on the additional $5,000

contribution from March 31, 1998 through December 31, 1998 and would have been allocated as 1998 Earnings in proportion to the prior year (December 31, 1997) account balances, (2) Employee X’s ac

count balance as of December 31, 1998 would have been increased by the additional $5,000 contribution, (3) Earnings for 1999 would have been increased by the 1999 Earnings on the additional $5,000 contri

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bution (including 1998 Earnings thereon) allocated in proportion to the prior year (December 31, 1998) account balances along with other 1999 Earnings, and (4) Earnings for 2000 would have been increased by the Earnings on the additional $5,000 (including 1998 and 1999 Earnings thereon) from January 1 to June 1, 2000 and would be allocated in proportion to the prior year (December 31, 1999) account balances along with other 2000 Earnings. Accordingly, the $5,000 corrective contribution is adjusted to reflect an Earnings amount of $2,084 ($5,000[(1.15)(1.10)(1.12)–1]) and the earnings amount is allocated to the account balances under the plan allocation method as follows:

(a) Each account balance that shared in the allocation of Earnings for 1998 is increased, as of De

cember 31, 1998, by its appropriate share of the Earnings amount for 1998, $750 ($5,000(.15)).

(b) Employee X’s account balance is increased, as of December 31, 1998, by $5,000.

(c) The resulting December 31, 1998 account balances will share in the 1999 Earnings, including the $575 for 1999 Earnings included in the corrective contribution ($5,750(.10)), to determine the account balances as of December 31, 1999. However, each account balance other than Employee X’s account balance has already shared in the 1999 Earnings, excluding the $575. Accordingly, Employee X’s account balance as of December 31, 1999 will include $500 of the 1999 portion of the earnings amount based on the $5,000 corrective contribution allocated to Employee X’s account balance as of

TABLE 1

CALCULATION AND ALLOCATION OF THE CORRECTIVE AMOUNT ADJUSTED FOR EARNINGS

December 31, 1998 ($5,000(.10)). Then each account balance that originally shared in the allocation of Earnings for 1999 (that is, excluding the $5,500 additions to Employee X’s account balance) is increased by its appropriate share of the remaining 1999 portion of the earnings amount, $75. (d) The resulting December 31, 1999 account balances (including the $5,500 additions to Employee X’s account balance) will share in the 2000 portion of the earnings amount based on the estimated January 1, 2000 to June 1, 2000 Earnings included in the corrective contribution equal to $759 ($6,325(.12)). (See Table 1.)

Earnings Rate Amount Allocated to:

Corrective Contribution $5,000 Employee X

First Partial Valuation Period Earnings 15% $750 ¹ All 12/31/1997 Account Balances ⁴

1999 Earnings 10% $575 ² Employee X ($500)/ All 12/31/1998 Account Balances ($75) ⁴

Second Partial Valuation Period Earnings 12% $759 ³ All 12/31/1999 Account Balances (including Employee X’s $5,500) ⁴

Total Amount Contributed $7,084

1$5,000 - 15% 2$5,750 ($5,000 - $750) - 10% 3$6,325 ($5,000 - $750 - $575) - 12% 4After reduction for distributions during the year for which Earnings are being determined but without regard to contributions received during the year for which Earnings are being determined.

creased by $7,084. Alternatively, Employee X’s account balance as of December 31, 1999 is increased by $6,325 ($5,000(1.15)(1.10)), which shares in the allocation of Earnings for 2000, and Employee X’s account balance as of December 31, 2000 is increased by the remaining $759. (See Table 2.)

Example 29 :

The facts are the same as in Example 28.

Earnings Adjustment on the Corrective Contri- bution :

The earnings amount on the corrective contribution is the same as in Example 28, but the earnings amount is allocated using the specific employee al

location method. Thus, the entire earnings amount for all periods through June 1, 2000 (that is, $750 for March 31, 1998 to December 31, 1998, $575 for 1999, and $759 for January 1, 2000 to June 1, 2000) is allocated to Employee X. Accordingly, Employer L makes a contribution on June 1, 2000 to the plan of $7,084 ($5,000(1.15)(1.10)(1.12)). Employee X’s account balance as of December 31, 2000 is in

TABLE 2

CALCULATION AND ALLOCATION OF THE CORRECTIVE AMOUNT ADJUSTED FOR EARNINGS

Earnings Rate Amount Allocated to:

Corrective Contribution $5,000 Employee X

First Partial Valuation Period Earnings 15% $750 ¹ Employee X

1999 Earnings 10% $575 ² Employee X

Second Partial Valuation Period Earnings 12% $759 ³ Employee X

Total Amount Contributed $7,084

1$5,000 - 15% 2$5,750($5,000 - $750) - 10% 3$6,325 ($5,000 - $750 - $575) - 12%

Example 30 : The facts are the same as in Example 28.

Earnings Adjustment on the Corrective Contri- bution :

The earnings amount on the corrective contribution is the same as in Example 28, but the earnings amount is allocated using the bifurcated allocation method. Thus, the Earnings for the first partial valuation period (March 31, 1998 to December 31,

1998. and the Earnings for 1999 are allocated to Employee X. Accordingly, Employer L makes a contribution on June 1, 2000 to the plan of $7,084 ($5,000(1.15)(1.10)(1.12)). Employee X’s account balance as of December 31, 1999 is increased by

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$6,325 ($5,000(1.15)(1.10)); and the December 31, ployee X’s increased account balance) will share in 1999 account balances of employees (including Em- estimated January 1, 2000 to June 1, 2000 Earnings

TABLE 3

CALCULATION AND ALLOCATION OF THE CORRECTIVE AMOUNT ADJUSTED FOR EARNINGS

on the corrective contribution equal to $759 ($6,325(.12)). (See, Table 3.)

Earnings Rate Amount Allocated to:

Corrective Contribution $5,000 Employee X

First Partial Valuation Period Earnings 15% $750 ¹ Employee X

1999 Earnings 10% $575 ² Employee X

Second Partial Valuation Period Earnings 12% $759 ³ 12/31/99 Account Balances (including Employee X’s $6,325) ⁴

Total Amount Contributed $7,084

1$5,000 - 15% 2$5,750 ($5,000 - $750) - 10% 3$6,325 ($5,000 - $750 - $575) - 12% 4After reduction for distributions during the 2000 year but without regard to contributions received during the 2000 year.

Example 31 :

The facts are the same as in Example 28.

Earnings Adjustment on the Corrective Contri- bution :

The earnings amount on the corrective contribution is the same as in Example 28, but the earnings amount is allocated using the current period allocation method. Thus, the Earnings for the first partial valuation period (March 31, 1998 to December 31, 1998) are allocated

as 2000 Earnings. Accordingly, Employer L makes a contribution on June 1, 2000 to the plan of $7,084 ($5,000 (1.15)(1.10)(1.12)). Employee X’s account balance as of December 31, 1999 is increased by the sum of $5,500 ($5,000(1.10)) and the remaining 1999 Earnings on the corrective contribution equal to $75 ($5,000(.15)(.10)). Further, both (1) the estimated March 31, 1998 to December 31, 1998 Earnings on the corrective contribution equal to $750 ($5,000(.15)) and (2) the estimated January 1, 2000 to June 1, 2000

TABLE 4

CALCULATION AND ALLOCATION OF THE CORRECTIVE AMOUNT ADJUSTED FOR EARNINGS

Earnings on the corrective contribution equal to $759 ($6,325(.12)) are treated in the same manner as 2000 Earnings by allocating these amounts to the December 31, 2000 account balances of employees in proportion to account balances as of December 31, 1999 (including Employee X’s increased account balance). (See, Table 4.) Thus, Employee X is allocated the Earnings for the full valuation period during the period of the failure.

Earnings Rate Amount Allocated to:

Corrective Contribution $5,000 Employee X

First Partial Valuation Period Earnings 15% $750 ¹ 12/31/99 Account Balances (including Employee X’s $5,575)4

1999 Earnings 10% $575 ² Employee X

Second Partial Valuation Period Earnings 12% $759 ³ 12/31/99 Account Balances (including Employee X’s $5,575) ¹

Total Amount Contributed $7,084

1$5,000 - 15% 2$5,750 ($5,000 - $750) - 10% 3$6,325 ($5,000 - $750 - $575) - 12% 4After reduction for distributions during the year for which Earnings are being determined but without regard to contributions received during the year for which Earnings are being determined.

26 CFR 601.105: Examination of returns and claims for refund, credit, or abatement; determination of correct tax liability. (Also Part I, § 42; 1.42–14.)

Rev. Proc. 2016–52