Children with specific reading impairment may have subtle deficits in speech perception related to difficulties in phonological processing. The aim of this study was to examine brain oscillatory activity related to phonological processing in the context of auditory sentence comprehension using magnetoencephalography to better understand these deficits. Good and poor readers, 16-18 years of age, were tested on speech perception of sentence-terminal incongruent words that were phonologically manipulated to be similar or dissimilar to corresponding congruent target words. Functional coupling between regions was measured using phase-locking values (PLVs). Gamma-band (30-45 Hz) PLV between auditory cortex and superior temporal sulcus in the right hemisphere was differentially modulated in the two groups by the degree of phonological contrast between the congruent and the incongruent target words in the latency range associated with semantic processing. Specifically, the PLV was larger in the phonologically similar than in the phonologically dissimilar condition in the good readers. This pattern was reversed in the poor readers, whose lower PLV in the phonologically similar condition may be indicative of the impaired phonological coding abilities of the group, and consequent vulnerability under perceptually demanding conditions. Overall, the results support the role of gamma oscillations in spoken language processing.