If the armhole measures 8.5 inches, its just straight line measurement. I've never seen a pattern that expects you to measure partial circumference. I think that those of us knitting around kids, or late a night, or under other distractions would revolt! Yeah, I'd go with top to bottom.
Find a spot on the knitting that lines up with the first decrease for the armhole and measure to 8.5. This way your not distracted by the changes in the curve of the arm.