I only upgrade High Tier equipment of Rarity 9+
Its expensive and takes a long time to do, so anything less than lvl 9 item is not worth the trouble.
Also I used to have all my girls equipped but with the way the game is set up, and the items are not "taken out" of your communal inventory, I had to unequip all non-active knights.

Normally in any game that has inventory you have "active" and "Passive" - passive is the one where you carry stuff, active is the one where you equip stuff. When equipping item, it gets moved from INVENTORY into EQUIPMENT (any RPG, Crafting and Survival game out there). This game is an exception (a stupid one at that) that ANY equipped item is still counted as part of the inventory, thus it still counts towards the maximum number of items you can have.
With that being said - equip only your active girls, otherwise you will soon run out of space, and with no space you cant roll for new - maybe better Rarity - equipment.