A number of laws govern whether a worker is an independent contractor (IC) or an employee, and each of these laws has a different way of looking at the issue. For example, the IRS has one method of determining whether a person is an independent contractor, but your state workers' compensation board may use a different test.

Because of all these different laws (often referred to as "worker classification" rules), the issue of whether a worker is an IC is not one question, but many. Employers who don't take the time to learn the rules before they hire an independent contractor can get hopelessly confused -- and this confusion can lead to trouble with one agency or another. If you want to avoid problems such as fines and taxes, know the rules before you hire a worker.

Blaze a Paper Trail Have all potential workers fill out a questionnaire regarding their independent contractor status before you hire them, and collect documents from them proving they are indeed independent contractors (for example, advertisements, invoices from other companies, professional licenses, and tax returns).

The IRS

The IRS is probably the most important agency to satisfy when it comes to classifying a worker as an IC. Under the IRS's test, workers are considered employees if the company they work for has the right to direct and control the way they work -- including the details of when, where, and how the job is accomplished. In contrast, the IRS will consider workers independent contractors if the company they work for does not manage how they work, except to accept or reject their final results.

The IRS looks at a number of factors when determining whether a worker is an employee or an independent contractor. The agency is more likely to classify as an independent contractor a worker who:

• can earn a profit or suffer a loss from the activity
• furnishes the tools and materials needed to do the work
• is paid by the job
• works for more than one firm at a time
• invests in equipment and facilities
• pays his or her own business and traveling expenses
• hires and pays assistants, and
• sets his or her own working hours.

On the other hand, the IRS is more likely to classify as an employee a worker who:

• can be fired at any time by the hiring firm
• is paid by the hour
• receives instructions from the hiring firm
• receives training from the hiring firm
• works full time for the hiring firm
• receives employee benefits
• has the right to quit without incurring liability, and
• provides services that are an integral part of the hiring firm's day-to-day operations.