diff --git a/changelog/3768.bugfix.rst b/changelog/3768.bugfix.rst
new file mode 100644
index 00000000000..b824853c0c8
--- /dev/null
+++ b/changelog/3768.bugfix.rst
@@ -0,0 +1 @@
+Fix test collection from packages mixed with normal directories.
diff --git a/changelog/3789.bugfix.rst b/changelog/3789.bugfix.rst
new file mode 100644
index 00000000000..b824853c0c8
--- /dev/null
+++ b/changelog/3789.bugfix.rst
@@ -0,0 +1 @@
+Fix test collection from packages mixed with normal directories.
diff --git a/src/_pytest/python.py b/src/_pytest/python.py
index 2657bff638a..6282c13cf40 100644
--- a/src/_pytest/python.py
+++ b/src/_pytest/python.py
@@ -216,18 +216,6 @@ def pytest_pycollect_makemodule(path, parent):
     return Module(path, parent)
 
 
-def pytest_ignore_collect(path, config):
-    # Skip duplicate packages.
-    keepduplicates = config.getoption("keepduplicates")
-    if keepduplicates:
-        duplicate_paths = config.pluginmanager._duplicatepaths
-        if path.basename == "__init__.py":
-            if path in duplicate_paths:
-                return True
-            else:
-                duplicate_paths.add(path)
-
-
 @hookimpl(hookwrapper=True)
 def pytest_pycollect_makeitem(collector, name, obj):
     outcome = yield
@@ -554,9 +542,7 @@ def __init__(self, fspath, parent=None, config=None, session=None, nodeid=None):
         self.name = fspath.dirname
         self.trace = session.trace
         self._norecursepatterns = session._norecursepatterns
-        for path in list(session.config.pluginmanager._duplicatepaths):
-            if path.dirname == fspath.dirname and path != fspath:
-                session.config.pluginmanager._duplicatepaths.remove(path)
+        self.fspath = fspath
 
     def _recurse(self, path):
         ihook = self.gethookproxy(path.dirpath())
@@ -594,6 +580,15 @@ def isinitpath(self, path):
         return path in self.session._initialpaths
 
     def collect(self):
+        # XXX: HACK!
+        # Before starting to collect any files from this package we need
+        # to cleanup the duplicate paths added by the session's collect().
+        # Proper fix is to not track these as duplicates in the first place.
+        for path in list(self.session.config.pluginmanager._duplicatepaths):
+            # if path.parts()[:len(self.fspath.dirpath().parts())] == self.fspath.dirpath().parts():
+            if path.dirname.startswith(self.name):
+                self.session.config.pluginmanager._duplicatepaths.remove(path)
+
         this_path = self.fspath.dirpath()
         pkg_prefix = None
         for path in this_path.visit(rec=self._recurse, bf=True, sort=True):
diff --git a/testing/python/collect.py b/testing/python/collect.py
index 907b368ebfd..c040cc09e68 100644
--- a/testing/python/collect.py
+++ b/testing/python/collect.py
@@ -1583,3 +1583,43 @@ def test_package_collection_infinite_recursion(testdir):
     testdir.copy_example("collect/package_infinite_recursion")
     result = testdir.runpytest()
     result.stdout.fnmatch_lines("*1 passed*")
+
+
+def test_package_with_modules(testdir):
+    """
+    .
+    └── root
+        ├── __init__.py
+        ├── sub1
+        │   ├── __init__.py
+        │   └── sub1_1
+        │       ├── __init__.py
+        │       └── test_in_sub1.py
+        └── sub2
+            └── test
+                └── test_in_sub2.py
+
+    """
+    root = testdir.mkpydir("root")
+    sub1 = root.mkdir("sub1")
+    sub1.ensure("__init__.py")
+    sub1_test = sub1.mkdir("sub1_1")
+    sub1_test.ensure("__init__.py")
+    sub2 = root.mkdir("sub2")
+    sub2_test = sub2.mkdir("sub2")
+
+    sub1_test.join("test_in_sub1.py").write("def test_1(): pass")
+    sub2_test.join("test_in_sub2.py").write("def test_2(): pass")
+
+    # Execute from .
+    result = testdir.runpytest("-v", "-s")
+    result.assert_outcomes(passed=2)
+
+    # Execute from . with one argument "root"
+    result = testdir.runpytest("-v", "-s", "root")
+    result.assert_outcomes(passed=2)
+
+    # Chdir into package's root and execute with no args
+    root.chdir()
+    result = testdir.runpytest("-v", "-s")
+    result.assert_outcomes(passed=2)