This doesn't feel like a grouping problem to me. It's just tokenizing ...

  <xsl:template match="key:div">
    <xsl:for-each select="tokenize(., '\n')">
      <para>
        <xsl:value-of select="."/>
      </para>
    </xsl:for-each>
  </xsl:template>

         <para/>
         <para>        </para>