"Will the IRS investigate this? "---> Absolutely. Paying your IC under the table in cash, or accepting payment from payor in cash without reporting it is illegal. When you do not report income — either for your own company or for workers — and try to hide your tracks by purposely not keeping a records trail, that’s clearly wrong. It’s black — as in black-and-white wrong. REMEMBER. Whistle bower rewards Increased for reporting tax violations;typical informants include what one government official calls "the exes" - ex-boyfriends and girlfriends, ex-spouses and ex-business associates or employees. Bookkeepers, accountants or etc.
I guess this is an issue of employment status or job status classification; there will always be those independent contractors who would rather be paid in cash, possibly wanting to avoid the long arm of the IRS as part of the underground economy; I mean IC doesn't have to pay both self-employment and quarterly estimated taxes on the cash payments. You, as an employer( by paying cash to your IC in cash not by 1099 Form), do not withhold FICA Taxes, federal and state taxes on the cash, so both of you are i actually in tax violation sitaution as you know .Whatever the IC's reason for wanting to be classified as an independent contractor, the IRS and the courts will go after for recompense due to any misclassification of employee status.When Things Go Wrong, you should not ignore the ramification of your classification decision, if something goes wrong during or after a period of service by the individual. you do not have a real clear answer to the question of whether a person performing services for you is to be classified as an independent contractor as opposed to classifying the individual as an employee. The ball is in your court; you need to prove it.
" How does this get resolved? "---> You may contact your tax attorney.