I will answer this question instead of the PCR Moderator as it refers to the general LCA approach used in the International EPD® System and not only this PCR.
Your interpretation of the ISO hierarchy of different approaches of solving multifunctionality appears to be that system expansion is always equivalent to substitution/avoided emissions. As has been discussed in the LCA community for a long time, there is not always such an equivalence. If the substitution approach is applicable depends on the goal and scope of the study.
Environmental declarations is very much related to the attribution of impacts without interaction with other systems, why avoided emissions is not an option. Solving multifunctionality is therefore done through allocation.
For more information about the LCA approach of the International EPD System, please see the General Programme Instructions, Annex A.
Secretariat of the International EPD® System