Broadly-speaking, equity just refers to (the value of) what you own, after deducting what you owe.
The accounting equation is: Assets - Liabilities = Equity.
So if you have $100k in cash (and no loans) and you borrow $200k to buy a $300k property, your equity before and after the purchase is the same. You started with $100k equity and you ended with $300k - $200k = $100k equity.
Suppose you get a bill for $10k.
- If you kept your original $100k in the bank and didn't buy the $300k property, you can just draw $10k from your bank account to pay for it, leaving your equity at $90k.
- If you borrowed to buy the property, you can increase your mortgage by $10k (assuming you have the appropriate redraw privileges) to pay for it, leaving your equity at $300k - $210k = $90k.
Unsurprisingly, both possibilities give you the same equity.
Loan repayments come from income. If you get $10k worth of income and pay that into your mortgage, your assets are $300k (property) + $10k (income) = $310k. So your equity is $310k - $200k = $110k. If you didn't take out the loan, adding the $10k income to your $100k cash in the bank nets you $110k equity.
Now, if your property appreciates in value, say from $300 to $350k, your asset has now increased in value. Ignoring income, loan repayments and interest for simplicity, your equity has now increased: $350k - $200k = $150k. The increase in equity comes from your investment. If your house price depreciates, your equity drops by a corresponding amount. In the other scenario, had you invested your cash into shares and the shares appreciated by $50k, your equity would also have increased to $150k.
Earning bank interest works the same way to increase your equity, and paying mortgage interest does what you'd expect to decrease your equity.
What does “Home Equity” do for me?
It does exactly the same for you as "cash" equity does, except that cash at bank tends to be easier to withdraw. You can draw on your home equity only if your mortgage arrangements let you increase your loan.
But once you've taken on a mortgage, the 'value' of your house becomes something of a nebulous figure. You can't easily give the bank a third of the bricks to exchange for $100k. And what you paid for the house may not be what someone else might want to pay. By playing with the asset figure (the house price as valued by the bank), the bank effectively plays with your equity figure. If they say they only recognise $250k of your house price, then your equity becomes $250k - $200k = $50k, instead of the $100k cash you had before buying the house.
Conversely, if the bank says your house is worth $400k, then your equity becomes $400k - $200k = $200k. Note that if you did borrow that additional $200k ('unlocking' the equity in your home), you now have a loan of $400k. Should the bank require it back, you'd need to sell your house. If you can't get a price of at least $400k clear of fees, then you'd have negative equity. Say you sold the house at $350k. Your assets are now $350k, but your liability is still at $400k, so your equity is $350k - $400k = -$50k. In this situation, you owe the bank money and have nothing with which to repay. This is a bad position to be in.
Whether it makes sense to buy a house - that depends on your situation and your own disposition. But buying a house doesn't increase your equity. It just changes it from cash to a more nebulous form of (house price minus loan amount).
Disclaimer: I am not a financial advisor and the above is not financial advice. If you intend to invest in property, please seek your own financial advice.