While independent contractors mean lower payroll costs, be advised that the IRS scrutinizes this whole area very carefully. It wants to make sure your workers are properly classified and paying the government the necessary income and payroll taxes that are due.

To stay out of hot water with the IRS, be sure the workers you classify as independent contractor. The IRS has a 20-point test its auditors use to determine the proper classification. Here are some of the major points:

  • Who has control? A worker is an employee if the person for whom he works has the right to direct and control him in the way he works, both as to the final results and as to the details of when, where and how the work is done. The employer need not actually exercise control; it's sufficient that he has the right to do so.
  • Right to fire. An employer can fire an employee. An independent contractor can't be fired so long as he or she produces a result that meets the specifications of the contract.
  • Training. An employee may be trained to perform services in a particular manner. Independent contractors ordinarily use their own methods and receive no training from the employer.

Excerpted from Start Your Own Business