You can choose whichever option suits your family the best: a parent report and portfolio of the student's work, OR a teacher report, OR a standardized test. You don't have to do a teacher assessment or a test if you don't want to.
At the end of the dept of ed's homeschooling packet there is a list of accepted standardized tests. One problem with going the standardized test route is that you would have to document each of the subject areas that Vermont requires you to teach, and some areas are not well covered by standarized tests. You can do a mixture if you want, I think (e.g. send in a standardized test for math but a portfolio for art, and so on). I think really it is just simpler not to mess with the standardized tests. We did a portfolio for our first year, and it really was not so bad.
If you want to go the teacher assessment route, there are at least a couple homeschool-friendly local teachers who will do these assessments for a small fee. Teachers can also sign the Form B (the enrollment form specifying whether your child has special needs). We got our Form B this way - the teacher basically did a short interview with dd in our house, nothing major, and it cost us just $35 (cheaper than going to the doctor).
For the portfolio of work, you can include not just actual work samples (which a younger child might not produce as much of) but also photos of your dc doing activities, brochures from events you went to, lists of books read, etc (the dept. of ed's home study guide gives a fairly long list of examples). It took a lot of time for me to put together our portfolio (would have taken less if I had kept our stuff more organized) but it was doable.
The home study department is very friendly and helpful, in my experience. I find this to be a nice place to homeschool, all in all.
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