What is regulatory compliance risk?

Compliance risk definition

Compliance risks, on the other hand, are about breaking existing regulations. These risks can lead to penalties, fines, or legal issues. For example, not encrypting credit card data according to GPDR or PCI-DSS standards is a compliance risk.

Managing compliance risks involves ensuring all rules are followed and updating policies as needed to avoid violations.

The two forms of risks are closely related. Businesses must think about both when creating their compliance strategies.

Organizations must decide which compliance risks need controls, whether to share responsibilities with third parties and have backup plans for dealing with regulatory changes.

What is the difference between compliance and regulatory risk?

Compliance risk and regulatory risk are two different concepts, but they work together to secure businesses against regulatory penalties.

Here’s how it works: Regulatory risks can turn into compliance risks or make current compliance risks more important.

Risk managers must understand how new laws or regulations will impact business operations. They need a strategic perspective, and their insights should shape compliance risk management as regulations evolve.

An effective compliance risk management strategy has two parts: creating controls and preparing for upcoming changes. This helps avoid confusion or compliance gaps as regulations change.

Both risks are supported by managing governance risk, which relates to how the business is run—like having a well-structured board with ethics and compliance officers in place.

Regulatory and compliance risk examples

Compliance risk examples

Compliance risks vary by industry, and there are countless examples. Common regulatory compliance risk examples include:

• Privacy violations. Laws like HIPAA require healthcare companies to protect patient privacy. In the European Union, the General Data Privacy Regulation (GDPR) demands that online businesses get consent for data sharing and retention.
• Data breaches. Exposing sensitive data is a common compliance violation. PCI-DSS rules require strict data protection for businesses handling credit card data. Financial firms can also face prosecution under laws like Sarbanes-Oxley or the Financial Modernization Act (also known as Gramm-Leach-Bliley) for breaches.
• Fraud. Legislation protects customers and shareholders against fraud in almost all jurisdictions. Companies must monitor employee activity, protect confidential data, and audit accounts. Failure to do so can lead to severe legal and reputational damage.
• Anti-money-laundering laws. Many institutions, especially financial companies, are closely watched for money laundering. Penalties can be steep, such as Deutsche Bank’s $2 billion fine in 2022 for violating anti-money-laundering regulations.
• Health and safety. The Occupational Safety and Health Administration (OSHA) oversees laws that protect employees and customers from harm. Violations can lead to heavy penalties for avoidable safety risks.
• Process violations. Poorly managed processes, like weak network security, pose compliance risks. Companies failing to perform network checks (e.g., PCI-DSS penetration testing) risk malware attacks and legal liability if customer data is compromised.
• Environmental damage. Many US laws protect natural resources, and violations can have serious financial consequences. For example, oil company BP was fined $5.5 billion under the Clean Water Act following the Deepwater Horizon oil spill.

Regulatory risk examples

Regulatory risks are also specific to industries. Common examples include:

• Privacy regulations. The rise of social media marketing and online tracking has led to legislative changes. Companies collecting customer data must adapt to new regulations. When GDPR came into force in 2018, businesses were required to inform website visitors about tracking cookies. And companies that failed to do so faced huge fines.
• Emissions laws. Environmental regulations, like greenhouse gas emissions limits, change as scientific understanding advances. Companies must comply with current laws or mitigate emissions through credits or offsets.
• Antitrust laws. Large organizations must anticipate regulations aimed at maintaining market competition. For example, the European Union fined Microsoft and Google billions of dollars for anti-competitive practices, like bundling software and excluding competitors.

Understanding compliance risk management

Companies must decide how to address compliance and regulatory risks. They have four main ways to respond. Each approach should be part of a risk management strategy:

• Avoidance. Can the business structure operations to avoid the risk entirely?
• Mitigation. Can controls, such as access management tools or staff training, be put in place to reduce the risk?
• Acceptance. Some risks can’t be avoided. Companies must be clear about the risks they accept and why this is a sound business strategy.
• Transferral. Can risks be outsourced or shared with third parties, like using specialists for credit card processing?

Effective risk management ensures businesses can handle threats and grow safely.

Risk assessment: a key step in managing regulatory compliance risks

A solid risk assessment framework is essential to understanding regulatory compliance risks. Without it, organizations can’t link regulatory requirements to their business activity. This makes regulatory violations and cyber-attacks much more likely.

Risk assessments offer several key functions:

• Context. They help identify which regulations apply and set a clear path to compliance, defining what compliance means and how to determine when risks have been successfully mitigated.
• Classification. Risk assessors prioritize risks by examining business systems and data assets, allowing security teams to focus on critical vulnerabilities.
• Mitigation. Risk assessors connect regulatory risks to security controls, providing clear risk management plans.
• Assessment and analysis. Regular audits ensure that compliance plans are followed. New laws or regulations are considered, and recommendations are made to address emerging risks.

What are the types of business regulations?

US businesses must navigate a complex network of regulations, with each industry facing unique regulatory burdens. Here are some of the key business regulations:

• The Health Insurance Portability and Accountability Act (HIPAA). HIPAA governs companies handling patient data, covering data privacy, incident reporting, security controls, and third-party relations.
• Sarbanes-Oxley (SOX). SOX applies to financial companies in the USA, with strict requirements for financial reporting, internal auditing, and transparency.
• The California Consumer Privacy Act (CCPA). California’s privacy law requires companies (operating in California) to provide data access, prohibits sharing consumer data without consent, and mandates immediate deletion of consumer data.
• Clean Air Act (CAA). The CAA affects US businesses and regulates pollutant emissions. Similar regulations govern drinking water quality and responsibility for oil spills.
• Sherman Antitrust Act (SAA). SAA prevents anti-competitive mergers in interstate commerce, affecting businesses looking to expand.
  
  

Each regulation serves a different purpose—some are industry-specific, while others apply across the board. Some protect consumers, while others influence environmental or economic behavior. Organizations must understand the relevant regulations to build an effective compliance program.

Financial regulatory compliance

The financial sector faces a complex web of regulations. Bank failures in the 20th century led to strict rules governing financial institutions. Although regulations were relaxed in the 1990s and 2000s, the 2008 financial crisis spurred a renewal of tighter controls in areas such as disclosure, corporate structure, liquidity, investments, and data security.

Key regulatory bodies include the Securities and Exchange Commission (SEC), the Federal Deposit Insurance Corporation (FDIC), and the Office of the Comptroller of the Currency (OCC).

In the European Union, the European Banking Authority (EBA) and the European Data Protection Supervisor (EDPS) manage financial and GDPR regulations, respectively.

Blockchain's influence on financial regulatory compliance

Blockchain technology, especially cryptocurrencies, is reshaping the financial regulatory landscape, creating compliance risks.

The lack of clarity comes at a time when tighter rules are needed to address fraud, business failures, and the protection of customer assets. Examples include of emerging regulatory risks include:

• Stricter fraud prevention for coin issuers
• Capital requirements for cryptocurrency exchanges
• Privacy rules to secure customer digital wallets
• Rules on cross-border crypto transactions
• Accounting laws for crypto asset valuation
  
  

Blockchain presents several compliance risks. For instance, companies must ensure that currencies are properly encrypted, and blockchain processes should integrate safely with IT systems. Additionally, any agreements with third-party blockchain service providers must follow data security and privacy rules.

In the future, companies will seek to harness decentralized blockchain processes in many ways. But as they do so, they will need to put in place robust compliance programs.

Conclusion: ensure compliance with solid risk management programs

To ensure compliance, companies need solid risk management programs. Whether developing blockchain solutions or selling SaaS, managing compliance risks should be a priority. Key elements of an effective plan include:

• Internal expertise. Skilled compliance officers link regulations with internal systems. They assess risks and create plans to address compliance challenges, keeping up with regulation changes.
• Compliance software. Using software simplifies risk management, reduces human error, and centralizes information for audits. It fosters collaboration across departments and streamlines the compliance process.
  
  

With a solid risk management program, companies can reduce the risk of data breaches, regulatory penalties, and reputational harm. This allows them to focus on serving customers and enhancing their products.