Existing neurocognitive reading models highlight a left-lateralized brain network supporting word- to discourse-level processing, but they largely overlook emotion. Although emotion-related brain regions are active during discourse processing, the role of arousal (i.e., emotional intensity) remains underexplored. Prior neuroimaging work has shown that isolated words or whole passages varying in arousal evoke activity in brain regions associated with emotion and situation model processing. However, how arousal at the phrase level within passages may modulate neural activity is unclear, nor have studies investigated how individual differences in arousal responsiveness may be linked to reading comprehension ability, particularly in developing readers. Here, we used functional magnetic resonance imaging (fMRI) to examine the neural correlates of lexical arousal in 86 third-graders as they read passages. A parametric modulation analysis, using phrase-level arousal ratings from a validated lexical database, was used to investigate how fluctuations in arousal during passage reading correlated with neural activity. We demonstrated that phrase-level arousal was associated with increased activity in regions implicated in emotional processing and situation model construction: the right amygdala, striatum, and posterior insula, and the left dorsomedial prefrontal cortex (dmPFC). Additionally, dmPFC activity was associated with better reading comprehension ability, aligning with prior literature linking dmPFC to situation model building. This work highlights the importance of integrating lexical emotional dimensions into cognitive models of reading and supports the idea of using emotionally engaging materials to enhance comprehension for developing readers of all abilities.