If it were inanimate objects, we'd say, "they are different". "They differ" is possible, but it is highly formal and not colloquial at all.
And geneven is correct - "they differ" almost always refers to a minor difference of opinion or point of view. If animate objects differ physically, then we say, "they are different from each other". Again, "they differ" could apply to physical traits, but it's highly formal and stylized, non-colloquial. Unusual and not natural.
At a beginner's level (and duolingo is for beginners) it makes absolutely no sense to use words in a literary, very formal and outdated sense like that. Using the wrong speech level is a serious mistake, because it inevitably leads to misunderstanding. Of course in a maths lecture I could say that two functions differ by a constant, but in "real life" I can't think of circumstances where I would use the verb differ in that way. And it's even worse without adding "by something". Who would seriously claim that they would say "those two cars differ?".
Native English speaker here. I agree. I even put "They differ from each other," and was marked wrong. I just assumed with the reflexive -ся, that I should include "from each other," otherwise it could be connotated that they differ not just from themselves, but from a larger group. But, of course, I don't know the context.
Without -ся, отличать would mean ‘to distinguish, to discern, to tell apart’.
Отличаться doesn’t specify what they are different from: it can be some larger group, or themselves.
I think 'they stand out' has a positive connotation (i.e. they differ in a good way), while Russian is neutral.