Indication of the used pronoun:
I translated as "They are reading to you a newspaper." which is perfectly acceptable English, and it was marked wrong. The "to" in front of the indirect object should be added as an option.
I don't think that the problem is the "to" in front of the indirect object, but the word order. It can be either "They read/are reading you a newspaper" or "They read/are reading a newspaper to you". "They are reading to you a newspaper" is not a proper English sentence.
You should switch the position of the objects, though: "they are reading a newspaper to you" is much more natural.