How is this legal? Specifically, distributing copyrighted assets and using their name/logo without permission.
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As I understand it, Lego is aware of the project (there's been a significant increase in interest in Lego Island in the past few years, with attempts to obtain the original source code) and simply does not care. It's an ancient IP and can't realistically compete with anything new, at least not in a way that would significantly affect Lego's revenue. This is not unlike the way several other companies have acted when their respective older games have been given the same treatment; if a fan project is not actively causing problems (reputational, financial, etc.), most companies will just leave it alone. For companies that actually seem to care about public opinion (as opposed to, say, Nintendo), I think it's fair to assume that the bad optics of taking legal action against a random fan project, however legally justified it might be, far outweigh any possible benefits.
When either value changes drastically in scale (e.g. a project does something making it very cut and dry which side of legal precedent it falls on, or to massively increase the damage to The Brand(tm)), that's when you get worried.