Teaching with Moodle

So, it sounds like you have forced groups, which is fine, but can result in behavior like that.  Do you have separate groups enabled for the activity, too? The groups settings for activities has changed since last I fiddled with it (last was...maybe 2.5?, I do a lot with plain old groups but advanced groups/groupings was never a priority) and they are much cooler.  I did a small test run and it seemed to work okay, but I didn't do a complete test (submissions, etc) with each group.

This might be a place to use groupings with groups, it is a little more complicated but might improve functionality.