diff --git a/packages/playwright-test/src/loader.ts b/packages/playwright-test/src/loader.ts
index 4d73224cfd..7b03bcd7fb 100644
--- a/packages/playwright-test/src/loader.ts
+++ b/packages/playwright-test/src/loader.ts
@@ -17,7 +17,7 @@
 import { installTransform, setCurrentlyLoadingTestFile } from './transform';
 import type { Config, FullProject, Project, ReporterDescription, PreserveOutput } from './types';
 import type { FullConfigInternal } from './types';
-import { mergeObjects, errorWithFile } from './util';
+import { getPackageJsonPath, mergeObjects, errorWithFile } from './util';
 import { setCurrentlyLoadingFileSuite } from './globals';
 import { Suite } from './test';
 import { SerializedLoaderData } from './ipc';
@@ -99,6 +99,7 @@ export class Loader {
     const configUse = mergeObjects(this._defaultConfig.use, config.use);
     config = mergeObjects(mergeObjects(this._defaultConfig, config), { use: configUse });
 
+    (this._fullConfig as any).__configDir = configDir;
     this._fullConfig.rootDir = config.testDir || this._configDir;
     this._fullConfig.forbidOnly = takeFirst(this._configOverrides.forbidOnly, config.forbidOnly, baseFullConfig.forbidOnly);
     this._fullConfig.fullyParallel = takeFirst(this._configOverrides.fullyParallel, config.fullyParallel, baseFullConfig.fullyParallel);
@@ -498,30 +499,6 @@ export function fileIsModule(file: string): boolean {
   return folderIsModule(folder);
 }
 
-const folderToPackageJsonPath = new Map<string, string>();
-
-function getPackageJsonPath(folderPath: string): string {
-  const cached = folderToPackageJsonPath.get(folderPath);
-  if (cached !== undefined)
-    return cached;
-
-  const packageJsonPath = path.join(folderPath, 'package.json');
-  if (fs.existsSync(packageJsonPath)) {
-    folderToPackageJsonPath.set(folderPath, packageJsonPath);
-    return packageJsonPath;
-  }
-
-  const parentFolder = path.dirname(folderPath);
-  if (folderPath === parentFolder) {
-    folderToPackageJsonPath.set(folderPath, '');
-    return '';
-  }
-
-  const result = getPackageJsonPath(parentFolder);
-  folderToPackageJsonPath.set(folderPath, result);
-  return result;
-}
-
 export function folderIsModule(folder: string): boolean {
   const packageJsonPath = getPackageJsonPath(folder);
   if (!packageJsonPath)
diff --git a/packages/playwright-test/src/reporters/html.ts b/packages/playwright-test/src/reporters/html.ts
index 353473e4b7..3e9cae1067 100644
--- a/packages/playwright-test/src/reporters/html.ts
+++ b/packages/playwright-test/src/reporters/html.ts
@@ -26,6 +26,7 @@ import RawReporter, { JsonAttachment, JsonReport, JsonSuite, JsonTestCase, JsonT
 import assert from 'assert';
 import yazl from 'yazl';
 import { stripAnsiEscapes } from './base';
+import { getPackageJsonPath } from '../util';
 
 export type Stats = {
   total: number;
@@ -115,16 +116,19 @@ type TestEntry = {
 
 const kMissingContentType = 'x-playwright/missing';
 
+type HtmlReportOpenOption = 'always' | 'never' | 'on-failure';
+type HtmlReporterOptions = {
+  outputFolder?: string,
+  open?: HtmlReportOpenOption,
+};
+
 class HtmlReporter implements Reporter {
   private config!: FullConfig;
   private suite!: Suite;
-  private _outputFolder: string | undefined;
-  private _open: 'always' | 'never' | 'on-failure';
+  private _options: HtmlReporterOptions;
 
-  constructor(options: { outputFolder?: string, open?: 'always' | 'never' | 'on-failure' } = {}) {
-    // TODO: resolve relative to config.
-    this._outputFolder = options.outputFolder;
-    this._open = process.env.PW_TEST_HTML_REPORT_OPEN as any || options.open || 'on-failure';
+  constructor(options: HtmlReporterOptions = {}) {
+    this._options = options;
   }
 
   printsToStdio() {
@@ -136,49 +140,68 @@ class HtmlReporter implements Reporter {
     this.suite = suite;
   }
 
+  _resolveOptions(): { outputFolder: string, open: HtmlReportOpenOption } {
+    let { outputFolder } = this._options;
+    const configDir: string = (this.config as any).__configDir;
+    if (outputFolder)
+      outputFolder = path.resolve(configDir, outputFolder);
+    return {
+      outputFolder: reportFolderFromEnv() ?? outputFolder ?? defaultReportFolder(configDir),
+      open: process.env.PW_TEST_HTML_REPORT_OPEN as any || this._options.open || 'on-failure',
+    };
+  }
+
   async onEnd() {
+    const { open, outputFolder } = this._resolveOptions();
     const projectSuites = this.suite.suites;
     const reports = projectSuites.map(suite => {
       const rawReporter = new RawReporter();
       const report = rawReporter.generateProjectReport(this.config, suite);
       return report;
     });
-    const reportFolder = htmlReportFolder(this._outputFolder);
-    await removeFolders([reportFolder]);
-    const builder = new HtmlBuilder(reportFolder);
+    await removeFolders([outputFolder]);
+    const builder = new HtmlBuilder(outputFolder);
     const { ok, singleTestId } = await builder.build(new RawReporter().generateAttachments(this.config), reports);
 
     if (process.env.CI)
       return;
 
-    const shouldOpen = this._open === 'always' || (!ok && this._open === 'on-failure');
+
+    const shouldOpen = open === 'always' || (!ok && open === 'on-failure');
     if (shouldOpen) {
-      await showHTMLReport(reportFolder, singleTestId);
+      await showHTMLReport(outputFolder, singleTestId);
     } else {
-      const outputFolderPath = htmlReportFolder(this._outputFolder) === defaultReportFolder() ? '' : ' ' + path.relative(process.cwd(), htmlReportFolder(this._outputFolder));
+      const relativeReportPath = outputFolder === standaloneDefaultFolder() ? '' : ' ' + path.relative(process.cwd(), outputFolder);
       console.log('');
       console.log('To open last HTML report run:');
       console.log(colors.cyan(`
-  npx playwright show-report${outputFolderPath}
+  npx playwright show-report${relativeReportPath}
 `));
     }
   }
 }
 
-export function htmlReportFolder(outputFolder?: string): string {
+function reportFolderFromEnv(): string | undefined {
   if (process.env[`PLAYWRIGHT_HTML_REPORT`])
     return path.resolve(process.cwd(), process.env[`PLAYWRIGHT_HTML_REPORT`]);
-  if (outputFolder)
-    return outputFolder;
-  return defaultReportFolder();
+  return undefined;
 }
 
-function defaultReportFolder(): string {
-  return path.resolve(process.cwd(), 'playwright-report');
+function defaultReportFolder(searchForPackageJson: string): string {
+  let basePath = getPackageJsonPath(searchForPackageJson);
+  if (basePath)
+    basePath = path.dirname(basePath);
+  else
+    basePath = process.cwd();
+  return path.resolve(basePath, 'playwright-report');
+}
+
+function standaloneDefaultFolder(): string {
+  return reportFolderFromEnv() ?? defaultReportFolder(process.cwd());
 }
 
 export async function showHTMLReport(reportFolder: string | undefined, testId?: string) {
-  const folder = reportFolder || htmlReportFolder();
+  const folder = reportFolder ?? standaloneDefaultFolder();
   try {
     assert(fs.statSync(folder).isDirectory());
   } catch (e) {
@@ -224,7 +247,7 @@ class HtmlBuilder {
   private _hasTraces = false;
 
   constructor(outputDir: string) {
-    this._reportFolder = path.resolve(process.cwd(), outputDir);
+    this._reportFolder = outputDir;
     fs.mkdirSync(this._reportFolder, { recursive: true });
     this._dataZipFile = new yazl.ZipFile();
   }
diff --git a/packages/playwright-test/src/util.ts b/packages/playwright-test/src/util.ts
index 71bcd27283..61d37b2e7e 100644
--- a/packages/playwright-test/src/util.ts
+++ b/packages/playwright-test/src/util.ts
@@ -15,6 +15,7 @@
  */
 
 import util from 'util';
+import fs from 'fs';
 import path from 'path';
 import url from 'url';
 import colors from 'colors/safe';
@@ -253,3 +254,27 @@ export function currentExpectTimeout(options: { timeout?: number }) {
   return defaultExpectTimeout;
 }
 
+const folderToPackageJsonPath = new Map<string, string>();
+
+export function getPackageJsonPath(folderPath: string): string {
+  const cached = folderToPackageJsonPath.get(folderPath);
+  if (cached !== undefined)
+    return cached;
+
+  const packageJsonPath = path.join(folderPath, 'package.json');
+  if (fs.existsSync(packageJsonPath)) {
+    folderToPackageJsonPath.set(folderPath, packageJsonPath);
+    return packageJsonPath;
+  }
+
+  const parentFolder = path.dirname(folderPath);
+  if (folderPath === parentFolder) {
+    folderToPackageJsonPath.set(folderPath, '');
+    return '';
+  }
+
+  const result = getPackageJsonPath(parentFolder);
+  folderToPackageJsonPath.set(folderPath, result);
+  return result;
+}
+
diff --git a/tests/playwright-test/reporter-html.spec.ts b/tests/playwright-test/reporter-html.spec.ts
index e7cc5e312e..d73453b5c7 100644
--- a/tests/playwright-test/reporter-html.spec.ts
+++ b/tests/playwright-test/reporter-html.spec.ts
@@ -14,6 +14,7 @@
  * limitations under the License.
  */
 
+import fs from 'fs';
 import { test as baseTest, expect, createImage } from './playwright-test-fixtures';
 import { HttpServer } from '../../packages/playwright-core/lib/utils/httpServer';
 import { startHtmlReportServer } from '../../packages/playwright-test/lib/reporters/html';
@@ -70,6 +71,31 @@ test('should generate report', async ({ runInlineTest, showReport, page }) => {
   await expect(page.locator('.metadata-view')).not.toBeVisible();
 });
 
+test('should generate report wrt package.json', async ({ runInlineTest }, testInfo) => {
+  const result = await runInlineTest({
+    'foo/package.json': `{ "name": "foo" }`,
+    'foo/bar/playwright.config.js': `
+      module.exports = { projects: [ {} ] };
+    `,
+    'foo/bar/baz/tests/a.spec.js': `
+      const { test } = pwt;
+      const fs = require('fs');
+      test('pass', ({}, testInfo) => {
+      });
+    `
+  }, { 'reporter': 'html' }, { PW_TEST_HTML_REPORT_OPEN: 'never' }, {
+    cwd: 'foo/bar/baz/tests',
+    usesCustomOutputDir: true
+  });
+  expect(result.exitCode).toBe(0);
+  expect(result.passed).toBe(1);
+  expect(fs.existsSync(testInfo.outputPath('playwright-report'))).toBe(false);
+  expect(fs.existsSync(testInfo.outputPath('foo', 'playwright-report'))).toBe(true);
+  expect(fs.existsSync(testInfo.outputPath('foo', 'bar', 'playwright-report'))).toBe(false);
+  expect(fs.existsSync(testInfo.outputPath('foo', 'bar', 'baz', 'tests', 'playwright-report'))).toBe(false);
+});
+
+
 test('should not throw when attachment is missing', async ({ runInlineTest, page, showReport }, testInfo) => {
   const result = await runInlineTest({
     'playwright.config.ts': `