The 75-year-old former England manager replaces Patrick Vieira, who was sacked on Friday, with the Eagles 12th in the Premier League - three points above the relegation zone - after a 12-match winless run.
It comes over ten years since Hodgson was brought in by then Albion chairman Jeremy Peace - to help the club survive in the Premier League.
Hodgson guided Albion to 11th in his first season - and then a 10th place finish in his second campaign before he left to manage England.
The former Liverpool and Fulham manager said on the Palace website: "It is a privilege to be asked to return to the club, which has always meant so much to me, and to be given the important task of turning the team's fortunes around.
"Our sole objective now is to start winning matches, and to get the points necessary to ensure our Premier League status.
"Crystal Palace is known for its fighting spirit, and I have no doubt that all our supporters will fight with us, beginning with the visit of Leicester City a week Saturday."