There is no law of physics that tells us that balls have to fall at the same rate among all inertial frames. It would obviously depend on the relationship between the inertial frame and the source of gravity. In the case of the inertial frame attached to the ground, the source is at rest with respect to the source of gravity. In the case of the inertial frame attached to the train, the source of gravity is moving. So, there is an asymmetry there--which tells us that we simply can't assume that balls have to fall at the same rate for both observers.
Once you remove this assumption, there is no paradox. The Lorentz transformations of acceleration tell us that acceleration in the direction perpendicular to the relative motion between two frames transform as $$a'=\frac{a}{\gamma^2}$$ where I chose the unprimed frame to be the frame of the train and the primed frame to be the ground frame. Since there is no length contraction in the direction perpendicular to the direction of relative motion, both the ground frame and the train frame will agree that the ball travels a vertical distance of, say, $h$. Since the motion will be constant acceleration motion in both frames (albeit with different accelerations), we can write $$\Delta t=\sqrt{\frac{2h}{a}}$$
$$\Delta t'=\sqrt{\frac{2h}{a'}}=\gamma\sqrt{\frac{2h}{a}}$$
Thus, we see that $$\Delta t' =\gamma \Delta t$$which tells us that as observed by the ground, the ball will take more time to hit the ground than it will take to do so as observed by the train. So, indeed you'd notice time dilation. The paradox arose because you simply assumed you wouldn't notice such an effect!
Clarification 1
Kindly notice that my answer is outside the context of general relativity where inertial frames have a nuanced meaning. In general relativity, my initial statement that balls don't have to fall at the same rate in inertial frames would not remain valid because inertial frames are the frames where gravitational acceleration is locally zero. So it'd be same in all inertial frames, namely, zero--but that would need a rewriting of the whole framework in which your question is posed. For example, we wouldn't be able to talk about Lorentz transformation between the train and the ground frame because neither would be an inertial frame given the fact that both experience gravitational acceleration locally.
Clarification 2
It should be strictly noticed that this analysis is only valid for small times after the release of the ball. Once the ball picks up a vertical velocity, the relationship between the accelerations in the two frames, $a, a'$ would change. Also, the acceleration due to gravity itself wouldn't remain $g$ in the train frame itself. See, Rindler coordinates for a discussion of how to describe constant acceleration motion over extended periods of time in special relativity.