A set of risks that negatively impacts an entity’s management or transactions for reasons relating to legal capacity and regulatory policies. The legal capacity risk (ultra vires risk) arises when a counterparty is, or becomes, not legally capable of effecting a binding, executable transaction. The regulatory risk comes into play when a statute or a policy or set of policies enforced by a regulatory authority does not enable, or conflicts with, a planned transaction.

The negative impact of legal risk is represented in the potential losses to an entity from its inability to tackle proper execution of transactions or to comply with applicable policies and laws within a jurisdiction. Legal risk is classified as a subset of operational risk (Basel II). From a business perspective, this classification recognizes that there are threats embodied in the business operating environment in which an entity operates.