What is the correct way to install an air admittance valve on a 1 1/2" line?
Do I need to use a wye or can I use a tee?

A tee would be the correct option as AAVs are typically required to be mounted in a vertical orientation (with an allowable variance of a few degrees from plumb). You should purchase your AAV prior to configuring your waste piping and consult the AAV manufacturer's instructions. There are also requirements for the required height of the AAV above the horizontal piping (typical minimum is 4&quot;).

...using a 1 1/2&quot; trap reducing into a smaller drain line...

is usually not a problem
You should consult with your AHJ on the use of an AAV as not all jurisdictions allow it.