© 2014 the American Physiological Society. Under binaural listening conditions, the detection of target signals within background masking noise is substantially improved when the interaural phase of the target differs from that of the masker. Neural correlates of this binaural masking level difference (BMLD) have been observed in the inferior colliculus and temporal cortex, but it is not known whether degeneration of the inferior colliculus would result in a reduction of the BMLD in humans. We used magnetoencephalography to examine the BMLD in 13 healthy adults and 13 patients with progressive supranuclear palsy (PSP). PSP is associated with severe atrophy of the upper brain stem, including the inferior colliculus, confirmed by voxel-based morphometry of structural MRI. Stimuli comprised in-phase sinusoidal tones presented to both ears at three levels (high, medium, and low) masked by in-phase noise, which rendered the low-level tone inaudible. Critically, the BMLD was measured using a low-level tone presented in opposite phase across ears, making it audible against the noise. The cortical waveforms from bilateral auditory sources revealed significantly larger N1m peaks for the out-of-phase low-level tone compared with the in-phase low-level tone, for both groups, indicating preservation of early cortical correlates of the BMLD in PSP. In PSP a significant delay was observed in the onset of the N1m deflection and the amplitude of the P2m was reduced, but these differences were not restricted to the BMLD condition. The results demonstrate that although PSP causes subtle auditory deficits, binaural processing can survive the presence of significant damage to the upper brain stem.