According to IRS Publication 525
If you had to repay an amount that you included in your income in an earlier year, you may be able to deduct the amount repaid from your income for the year in which you repaid it. Or, if the amount you repaid is more than $3,000, you may be able to take a credit against your tax for the year in which you repaid it. In most cases, you can claim a deduction or credit only if the repayment qualifies as an expense or loss incurred in your trade or business or in a for-profit transaction. (Emphasis mine)
The type of deduction you're allowed in the year of repayment depends on the type of income you included in the earlier year. In most cases, you deduct the repayment on the same form or schedule on which you previously reported it as income...If you reported it as wages, unemployment compensation, or other nonbusiness income, you may be able to deduct it as an other itemized deduction if the amount repaid is over $3,000.
If the amount you repaid was more than $3,000, you can deduct the repayment as an other itemized deduction on Schedule A (Form 1040), line 16, if you included the income under a claim of right. This means that at the time you included the income, it appeared that you had an unrestricted right to it. However, you can choose to take a credit for the year of repayment. Figure your tax under both methods and compare the results. Use the method (deduction or credit) that results in less tax.
In other words, you have the choice of taking a deduction for the amount you repaid on Schedule A - Itemized Deduction on your 2022 (the year of repayment) tax return, or taking a credit on your 2022 tax return for the amount of tax you paid in 2021 on the amount you paid back.
Method 1.
Figure your tax for the year of repayment claiming a deduction for the repaid amount.
Method 2.
Figure your tax for the year of repayment claiming a credit for the repaid amount. Follow these steps.
Figure your tax for the year of repayment without deducting the repaid amount.
Refigure your tax from the earlier year without including in income the amount you repaid in the year of repayment.
Subtract the tax in (2) from the tax shown on your return for the earlier year. This is the credit.
Subtract the answer in (3) from the tax for the year of repayment figured without the deduction (step 1).
If method 1 results in less tax, deduct the amount repaid. If method 2 results in less tax, claim the credit figured in (3) above on Form 1040 or 1040-SR. The credit is reported on Schedule 3 (Form 1040), line 13d.
To recover Social Security and Medicare tax paid, file a claim for refund using Form 843.
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