Whenever I try to give the doll to Tanya she hugs me ending the game. Is there any way to rectify the situation or should I just revert to an old save and lose all progress made since?

If memory serves correctly, you have to know about Erana's Sacrifice spell or something like that before you give Tanya her doll back.

If Tanya is hugging you, it probably means that you tried to attack her or Toby, and the game is unwinnable. (And this has nothing to do with giving her the doll.)

The best thing to do is make sure that you have spoken with the gypsies about the Destiny Spell before you go to give the doll to Tanya, so that you can kill two birds with one stone.

I'm working off of memory here but I remember encountering this problem, myself. I'm fairly certain that the key is to say "goodbye" to her after your first meeting. In doing so, you suggest to Tanya to keep your meeting a secret. Otherwise she'll talk to Katrina about it, who will tell Tanya that you're trying to kill her, leading to the hug of death. In a Quest for Glory game it always pays to be polite.

Unfortunately, if you forget to tick that option in the dialogue box then you're setting yourself up for failure without any way to turn it around. So your only option is to load a save from before you first entered Castle Borgov or otherwise to start from the beginning.